Fourth Annual Wall Street Comes to Washington:

Analysts' Perspectives on Health System Change

Conference TranscriptJune 9, 1999

DR. GINSBURG: Id appreciate it if you could take your seats. Id like to begin by welcoming you to the fourth Wall Street Conference that the Center for Studying Health System Change has convened. And looking over the attendee list, Im really pleased to see that theres a regular audience developing, that some individuals and some organizations come each year, look forward to the meeting, and weve also had a great deal of stability, for those that have come before see the same analysts as weve had in the past.

We convene this meeting not only to take stock of the financial health of the health care industry, but also to gain further insight into what were seeing in the markets we study. And I was talking with one of the panelists just today about the heart hospitals that weve seen in two of our sites, and shes quite familiar with the national company that is a partner with local cardiologists in these.

Let me spend a minute to describe who we are. Many of you know that the Center is a nonpartisan research organization. We began our work in 1995, and were funded exclusively by the Robert Wood Johnson Foundation, and our mission is to provide objective and timely analyses about how the health care system is changing, and our audience is predominantly the decisionmakers in both the public sector and the private sector as well as the health services researchers that are also trying to do things for this audience.

Our research is largely based on three biannual surveys and also a biannual site visit process that we do to communities. At this point weve completed our second round of site visits and have been publishing community reports, examples of which you have in your folder. And these community reports are looking at what has changed in the two-year period between the site visits. And were also in the field now for our second round of surveys while weve been continuing to work on analyses of the first round of data. And we will be having our second round ready for analysis early next year, and well be putting out some initial works about what has changed in health care from the perspective of physicians and consumers over the past two years.

This is the second conference weve done this year. Were planning a third one for the fall which will be the results of the sites visits that weve done, some cross-site analyses from that material.
Let me introduce the speakers, and my notes are over there. Thank you.

Id like to begin with--and you have these bios, so Im going to be very brief with Karen Boezi, who is a venture partner at Coral Ventures, and Coral Ventures invests in medical device, biopharmaceutical, and health services companies, and six of the companies that Karen has funded have gone public in the last several years.

Normal Fidel is the senior vice president of Alliance Capital Management, and he manages Alliance Capital Managements International Health Care Fund as well as their Global Growth Trend Funds.

Geoffrey Harris is the global head of Health Care Research at Warburg, Dillon & Read. Until recently he was managing director of the health care--he was a senior analyst at Salomon Smith Barney when he was at the conference last.

And, finally, Patricia Widner is a partner of Deerfield Capital, which is a specialty--where she runs a specialty health care hedge fund. And prior to joining Deerfield Capital, she was a partner at Warburg Pincus, where she managed the Warburg Pincus Health Sciences Mutual Funds.

So among these four people, we have a combination of people who work on the buy side, who are buying stocks in health care companies, as well as people who work on the sell side of selling health care company stocks.

Let me briefly tell you why we have this roundtable, why we have these people. Certainly their principal job is to select winners and losers among health care companies as to identify whos going to do well and whos going to do poorly. And in order to do their jobs well, they need to understand the whole context in which these companies operate. They need to understand who the competition is, what the competition is doing. What about the people that buy the products, what are their strategies? What about the people that theyre selling to, what are their strategies? So that people that do a good job as a securities analyst really need to understand the health care system in depth. And weve found over the years that their perspectives on whats happening in health care markets are very valuable to us and very complementary with the information that we get from surveys and site visits.

Let me tell you how were going to go today. Were breaking this session into two parts. The first part is called the financial health of the health care system, and the second part is public policy. And were not going to be talking about policy but the impacts of public policy on the health care system. And Im going to moderate the first half. My colleague, Joy Grossman, is going to moderate the second half. And were going to have two opportunities for questions and answers from the audience after each segment of the meeting. And what were going to do--its a new system for us--is that just as we break between sessions, were going to ask you to hand in notecards with questions that you would like to have asked, and after the break I will ask those questions and the analysts will answer them. And well repeat that for the second half of the session, where, again, just after the answer to the last question, as Im getting ready to summarize the meeting, you will also hand questions in about the subject matter in the second half of the meeting. And after my summary, then the analysts will answer the questions.

A critical ground rule in these question is you need to ask them on the topics that were covering at the meeting, and also these people are not allowed to make predictions or comments on individual companies that they follow.

Finally, those yellow evaluation forms are really important to us, and wed appreciate it if you filled them out at the end and handed them in. So Im going to go to the table and ask the first question.

I want to direct this to Geoff Harris because last year, Geoff, you gave a very lucid explanation of the underwriting cycle in health insurance, and you noted that plans were entering an upward phase in the insurance underwriting cycle with an increase in premiums and a corresponding increase in profitability. I think you said that capital was starting to leave the health insurance industry. After you said that, a whole year of media reports about individual health plans leaving particular market segments, I think I understood it better.

So the question is: At this point how successful will plans be in increasing their margins, and how long do you expect this phase of increasing profit margins to last?

MR. HARRIS: I think the evidence suggests that today, anyway, the plans have been very successful in increasing premiums. I think the best recent example of that is the rate increases that were forced upon the California Employee Retirement System, which is the nations second largest purchaser of health insurance behind the Federal Government. They agreed to average rate increases for 2000 of 9.7 percent, and typically employers key off the CalPERS rates, or at least use them as a guideline in terms of their own negotiations with health plans. And given that many employers are clearly smaller in size than CalPERS, they often have to pay rate increases that are even higher.

So I think theres very good visibility on premium trends through the end of 2000. My own opinion is that the premium trends will actually continue to rise beyond that, probably into 2001 and maybe even 2002, and that that will continue to widen the margins from where they are today, and that eventually when we get into 2002, the whole cycle will repeat itself again. The industry will achieve substantial profitability. Returns on equity and capital will once again be perhaps where they were in 1994, and new entrants will come back into the market. Premium pricing will get competitive again, and well have the downward phase of the underwriting cycle.

Right now I think were in the fairly early stages of a big upswing in premiums and margins and profitability in the industry.

The employers--one question I often get asked is what is the employer response and what might the response be in the public. I think its just interesting to note that the public debate and certainly employers were very concerned about cost increases or premium increases to them in the late 1980s through 1994. For the last several years, we dont even hear about costs anymore. What we hear about are things such as quality, access, and liability, and thats because the premium trends have been relatively benign the last several years.

I think that as the premium trend, though, begins to increase, I think somewhere in the year 2000, maybe 2001, quality, access, and liability issues will fall by the wayside, and well start hearing about costs again as being the key concern in the employer and the policy community.

DR. GINSBURG: Norm?

MR. FIDEL: Yes, I agree with Geoffrey, and to quantify it, I would estimate that the effect of premium rate increase in 1999 will be 6 to 7 percent nationwide, with smaller plans facing--realizing larger increases and, you know, vice versa, depending on size. But these really understate whats going on because I would estimate that 1 to 2 percentage points per year are being realized through benefits changes. So if its an effective 6 to 7 percent rate increase, the reduction of benefits really causes a 1 to 2 percent reduction from what the real change is. So its really closer to 10 percent if benefit changes were left remaining constant.

DR. GINSBURG: Before I go to Karen, could I follow up on--you mentioned that the smaller plans are likely to have larger premium increases. Is there a distinct cycle in the sense that the small plans get larger increases at some stages and get smaller increases in other stages? Or do you see a secular thing of a widening gap between what small and large firms pay?

MR. FIDEL: I think its just based on bargaining power of the buyer and the seller, and a small buyer does not have the bargaining power and has to accept the larger rate increase versus the large buyer. So the point Geoffrey mentioned, 9.7 percent for CalPERS, is a real statement since theyre the largest buying group in the country. And I think the Pacific Business Group is due to come out today with their 2000 rate increase, and it will probably be in the 8 to 9 percent range.

Now, remember that CalPERS and some of these others are really coming off a very low base. Premium rates between 1993 and 1996 actually declined for CalPERS and got to levels that were really not very profitable for the plans to supply. And now, you know, the adjustment is being made, and profit margins are getting normalized, and as Geoffrey said, you know, once we get to the area of 2001, well probably be in normalized profitability for the industry and the seeds of the next downturn will be sown.

DR. GINSBURG: Karen?

MS. BOEZI: I guess I would add to that that youre seeing the Blue Cross/Blue Shield plans as well as Kaiser premium rate increases of over 8 percent, and that tends to indicate really the end of the downward cycle and a significant upward cycle.

The other thing I would add is that there is a significant labor shortage right now, and a lot of employers are competing for employees and so are willing to take on these higher premium increases in order to not cut benefits too drastically or to even switch plans. There is really a lot of competition for employees at this point, and benefits are an important component of that package.

DR. GINSBURG: Geoff, if the economy in 2001 is like it is today, with very tight labor markets, do you see the typical employer response of getting a lot more concerned about costs being different because of that?

MR. HARRIS: Well, I think Norm alluded to the gap that you often see between the quoted prices, which are in the 6 to 7 percent range, and then the real price, which factors in the benefit reductions, and the real price being higher than that.

I think what you could see in 2000--lets call it 2001 if the economy is still strong, the labor market is still tight--is a narrowing of the gap between the quoted price and the realized price or the yield and thats employers will just have to pay the 10 percent and not cut the benefits because of their desire to keep employees.

So you may see some narrowing there between the quoted price and the actual yield. But as it stands today, there is a gap. There are some benefit buydowns that are occurring.

DR. GINSBURG: What area of benefits seems to be experiencing the most in the way of buydown? Is it in the scope of coverage of services? Is it the cost-sharing rates? Or is it the share that employers pay of the premium? Patricia?

MS. WIDNER: I think its all the above. I dont think theres any rule, frankly. I think wherever they can on the margin do anything, they will.

DR. GINSBURG: Okay. Actually, I should modify the last thing I said about the proportion that employers pay of the premium, because we have been talking about the total premium so far.

Actually, let me ask specifically, as far as employer reaction, I think employers reacted to the very high premium increases in the late 1980s and early 1990s by cutting down the proportion that they pay. In the environment looking forward, do you see that happening again?

MS. BOEZI: I see it happening on the drug side. I see a tiered system where patients will have to pay higher copays for drugs that are not on the formulary and pay less copayment for generics.

In terms of in 2000, 2001, I think if the labor market continues to be relatively tight, youre not going to see a significant increase in copays and deductibles for non-drug-related expenses.

DR. GINSBURG: Geoff?

MR. HARRIS: I think an answer can be summarized in just a thought that I think the attitude toward benefits has gone from a defined contribution--excuse me, defined benefit mentality where companies or even the government, for that matter, were targeting a level of benefits and then adjusting premiums to that or contributions to that level to a defined contribution mentality where theyre just tying--theyre saying well be willing to pay a certain amount per month, and theyll tie that to their profitability or to some cost index. And then if the premiums are higher than that, then those are borne by the consumer.

I think a key portion of the balanced budget bill which--I dont think its been articulated this way, but I think that HCFA has taken the same stance, that the whole mentality toward the Medicare risk program now is one of defined contribution where the government will raise rates, call it 2 percent a year, and if the trends higher, then the health plans initially will bear some of it in terms of lower margins, but ultimately theyre going to change their benefit designs and push it on to the consumer.

So I think defined benefit to defined contribution will continue.

DR. GINSBURG: Good. Okay. Let me turn--weve been talking so far mostly about the underwriting cycle and about the margins between premiums and the underlying costs. Now Im going to switch the discussion to the underlying costs.

The question is to identify what are the most important drivers of the--well, first, what are the underlying cost trends? Data that I presented, theres certainly been an increase in the underlying cost trend, though its still at levels that are low in history. But, you know, whats your prognosis for underlying costs? And if you could discuss the most important drivers as to, you know, pharmaceuticals, technology, provider payments, or other factors as to--what are the most important factors in the future cost increases? Norm?

MR. FIDEL: Well, relative to that 6 to 7 percent effective premium rate increase in 1999, I would estimate that medical cost trends are rising in the range of 5 to 7 percent, which is probably 100 to 150 basis points more than it was 18 months ago, and the trend is rising for several reasons.

First of all, there is tremendous government and societal pressure for more access, more freedom. Thats been reflected in sort of a shift in enrollment growth from the classic HMO to POS and PPO.

We had a three-year period where premiums essentially didnt rise and people--and the economy was strong, and people were feeling flush and so they wanted more freedom because the cost didnt seem to be that high. Well, now the costs are rising, and the question will be how does peoples desire for freedom compare to their desire to keep costs down, and well watch that over the next few years.

So the cost trends are rising. The government has mandated more things, and society has demanded a more open product, a more open access, more freedom to choose. But if we look at the cost drivers, the single largest cost driver and what I think represents almost one-half of the trend factor, the medical cost, is pharmaceuticals, which typically represent 12 to 15 percent of a plans costs but are rising 15 to 20 percent on average. And if you do the math, thats almost half of the overall cost increase, even though that sector only represents less than 15 percent of costs.

The hospital side has been the most favorable in terms of cost trends. Hospital costs represent about 25 percent of a plans costs, and theyre increasing 0 to 3 percent, almost all of that from prices not from utilization. Utilization is actually flat to down.

Physician costs are 30 to 35 percent of a typical plans cost, and theyre increasing 2 to 3 percent. Most of that, again, is price.

And outpatient, which is the remaining 30 to 35 percent of cost, are increasing 5 to 6 percent and is sort of the second-highest cost factor, and plans find it difficult to control--much more difficult to control this cost factor than, say, inpatient, in-hospital care. The outpatient is much more fragmented. Its tougher to get their hands around.

So if you average it all out, it probably averages 5.5 to about 6 percent on the cost trend.

DR. GINSBURG: Geoff?

MR. HARRIS: I agree with everything that has been said and I think just to take a slightly different cut at it, I think there have been academic studies that indicate that just aging population and then technology--under which I would include, Pharma and so forth, so all of technology, pharmaceuticals and so forth--that just aging and technology over the years will drive a 4 percent trend almost regardless.

So, I think that the trend that was evident in 1994, 1995, and 1996, I think was just artificially low. I dont think it represented reality. It was probably more a function of the failed Clinton plan and the pressures that it put on the system.

I think that a minimum of a 4 percent trend just from aging and technology is what should be expected and today we may be running a bit higher than that, as Norm mentioned.

MS. WIDNER: I do want to mention one thing on the drug side. So, I want to just put out the question to the panelists. I guess there would be a bunch of generic drugs coming in the year 2000 and 2001 where a big percentage of the industry actually will have a lot of patents coming off.

So, the question is, is the drug phenomenon a hurry up to the stop sign phenomenon, whereas the trends are increasing only to get to the year 2000, 2001, where they actually may back off a bit due to the fact that, you know, $5 to $6 billion of drugs are coming off patent.

DR. GINSBURG: Norm?

MR. FIDEL: Well, IMS probably has the best handle on whats happening in the drug industry. They have the auditing service that monitors trends in drug sales et cetera and the components of that. And they estimate in this period of 2000 and 2002, when actually a lot more than 5-to-6 billion of drugs come off patent, that the contribution from new products will be three times what the hit is to the industry from generic competition.

So, although we do have a higher period of generic impact on the drug industry, the new products are continuing to come and the tremendous flow of new products that weve seen in the last few years will really be having an effect on year-to-year growth for the drug industry also, as many of these drugs are developing into billion-dollar-plus block busters and they are in the early phases of their introduction.

So, were due to see good, solid, double-digit drug trend. Its not going to go lower than that. And I will just mention one other factor, too.

The managed care industry in a way has brought this drug trend increase upon themselves. And its something that they dont get credit for in the sense that usually managed care is bludgeoned by just about everyone. But the U.S. was virtually the only country in the developed world that didnt have real drug benefits for individuals. People who would have a drug benefit in a major medical plan would have to go into a drugstore and pay for a months supply drugs which could be over $100 and then file for major medical. Whereas, all other countries in the developed world had national health schemes where you have very low co-payments.

So, drugs only represented 7 percent of health care spending in the U.S., whereas drugs represent 10 to 25 percent of health care spending in all the other developed countries. So, drugs were really "under-utilized" in the U.S. or perhaps over-utilized outside the U.S. because the benefits were such that there was not much resistance to getting a prescription filled.

With managed care, with $5, $10 co-pays, now, theyre going up to $15, $20, $25 co-pays, it took price out of the equation and utilization skyrocketed.

And its getting to be more representative of how the rest of the world is with drugs. So, I think drugs are destined to continue to grow at a much faster rate than health care expenditures in general in the U.S. and we will become more like the rest of the world.

DR. GINSBURG: So, one of the ironies is that the managed care industry which developed to manage some benefits that were extremely well financed, at the same time extended that good financing to another benefit but didnt bring the management to bear, at least not until now.

Pat?

MS. WIDNER: That is, I guess, my point. I think that as Karen mentioned before, with the triple co-pays coming in we may see a backing off on the trend. In fact, United Health Care, I guess, is sort of shooting for an 8 percent trend when they go on their new contract with Medco.

But one thing I want to throw into the pot in terms of the trend factor is that I think that with some of these new pharmacy benefits managers and Internet portals, if you will, in the drugstore area, they may alter the benefits a little bit on the drugs that may change what the consumer sees on buying drugs, if we become an Internet society. But Im sure we will address the Internet later.

But I think drugs is a tool used to entice the consumer one way or another. Its either to entice the senior into the Medicare HMO or its enticed the commercial member to do their drugs or get their drugs on the Internet. Somehow those who manage health care recognize the value of drugs and recognize that the consumer responds to drugs as a benefit significantly.

DR. GINSBURG: Karen, I wanted to ask you about other cost-driving factors. Do you see anything interesting in the technology side outside of pharmaceuticals? In a sense, do you see--you know, weve long known that technology has been a major factor in cost increases--do you see it becoming a more important factor in the future given what youre seeing in the pipeline or is it going to be more of the same?

MS. BOEZI: I think that technology is going to continue to have a greater impact and pressure on cost. Last year, four very unique monoclonal antibodies were launched. And, so, youre seeing on the bio-tech side new technologies develop very unique products where there isnt much, if any, competition, which allows the bio-tech and technology companies to charge very high prices for these products. And with FDA approval times going down, these products are getting to market more quickly with less invested capital.

So, I think youre going to continue to see new technology impact on total cost.

DR. GINSBURG: Okay.

MR. HARRIS: I just think that an important comment is that the new technology often doesnt replace old technology, it ends up being an add-on, particularly in the diagnostic area, where you may have a new diagnostic tool that comes out and the initial thought is--it is expensive--and the initial thought might be, although it would replace previous, but typically end up just getting or moving up the scale. In other words, youll do the X-ray first and then youll do the CAT scan and then you do the PET scan, instead of going right to a more expensive one. So, the new diagnostic tools dont necessarily lower costs.

I think the other point is that to the extent a new diagnostic tool can replace a more expensive and potentially dangerous invasive procedure, that the wisdom originally was that that would lower costs. But then what happens is the number of diagnostic procedures goes way up because, precisely because they are less invasive and cheaper.

So, the classic case was when the CAT scan came on, the view was that would be a cost-saver because it was cheaper than doing invasive surgery, but then everyone who got a headache ended up getting a CAT scan. Whereas if someone presented with a headache it would be unlikely that they would have an invasive procedure.

And I think thats just a case study but that is something that continues in the health care delivery system. New technology on a unit basis my lower costs, but in aggregate probably continues to drive up the trend.

MS. BOEZI: Yes. I would just add to that, that the new technology is extending life. So, you see these cardiovascular devices, for instance, the implantable defibrillators, where if you had a cardiac event of that nature before, you would die. Now, with implantable defibrillators, the incidence of mortality due to ventricular tachycardia has gone way down.

And, so, it adds, in terms of the total cost over one persons life span rises significantly. And, so, I think as you continue to see these therapies, you will have life extension and increased costs per person over their lifetime.

DR. GINSBURG: Yes.

Norm?

MR. FIDEL: And these technologies keep getting expanded to new therapeutic applications. For example, Karen mentioned the defibrillator for ventricular arrhythmias, which really is an outgrowth of the pacemaker. And now we have defibrillators for atrial fibrillation entering the market. And next we will have similar devices for congestive heart failure.

So, the similar device that delivers electrical energy is now being used for more and more applications and along the way they get more and more expensive.

The stints, which have been a budget buster for hospitals in recent years, will go through another whole round with radiation stints, in stint radiation applied coming in the next few years.

So, its hard to hold back science, and its very difficult to see, you know, how thats going to be stopped as a cost-driver.

MS. WIDNER: Can I just add one thing? I think the way that we can perhaps get technology to lower health care costs are two ways. One, we need to speed up the approval process, both for drugs and for devices, such that there is not these long extended periods of time in between the application for approval and then the actual approval for the drug.

Two, we need to also get approvals for reimbursement a lot faster. I mean a lot of the things are held up in the configuration of HCFA in getting a coding for reimbursement.

And, therefore, it extends the period of time before a company can really launch a product. And what you really want to do is create an environment where all products, like for congestive heart failure, are coming onto the market in a pretty concise time period so that you have, you the doctor and you the patient, have a choice between a drug and a device and maybe even a surgical procedure such that so there is choices in technology.

And when there is choices in technology then technology has to be priced to not just drug-against-drug, but drug-against-device, drug against a surgeons knife.

And, so, I think the point is technology is great and thats what America is uniquely known for and thats why we, the U.S., has the best health care system in my opinion in the world.

But we can only enhance it into a cost-cutting mode so that we can achieve the big policy needs that we have in America which are to cut costs if we allow the regulatory bodies to unfortunately have to speed up approval process and hopefully get reimbursement out there so that then they can all compete on price and outcomes. And thats what we really want technology to do for us, is to be low-cost and high-outcomes.

DR. GINSBURG: Pat, that is an interesting perspective about more rapid approval will enable more competition among technology. Although, if we think that new technology, on balance, has been a cost increaser, couldnt you argue that more rapid approval will just accelerate this trend? And a lot of people have said in pharmaceuticals, thats one of the factors for the pharmaceutical explosion is a more rapid approval process. And maybe its just a transition to this, but thats maybe a factor behind more spending.

Yes, Geoff?

You ought to answer that first, Pat.

MS. WIDNER: All right.

Theres lots of ways to answer this and Im sure I wont cover the whole argument. However, yes, with supply side economics versus demand side economics, I think we have both things going on here in health care which is sort of a unique field.

I mean we have more supply, so, therefore, we demand more but we also have more science and, therefore, we have more cures. So, yes, thats an answer. But what Im suggesting is that if we stop the technology trend, then we lose the very competitive edge that America has. Its one of the last industries in the United States that actually is a worldwide dominant industry.

So, I would argue that we have to make a decision as a society, do we want to keep our competitive edge in health care, in the medical technology world, in the bio-technology world where we have complete supremacy, or do we--and, then, therefore, let these technologies on the market or do we stop, you know, innovation and, therefore, lose the competitive demand, the people will start crying in the fields because theyre not getting the best health care any more and they are treated as second-class citizens.

DR. GINSBURG: Geoff, what is your reaction?

MR. HARRIS: I would just like to give an anecdote on the topic of speed-to-market versus not. And I actually met with the--this was quite a few years ago--but with the Minister of Health of Singapore. And he said that--which is obviously a very centrally planned micro-economy--and he said that in every area the goal was to be at the forefront of technology, in telecommunications infrastructure, computers, and so forth, for every aspect of the economy, with the exception of health care.

He said as Minister of Health his goal there was to be 10 years behind the rest of the world because that was a means of managing costs in that economy. In other words, if you kept the technology out, people wouldnt demand it and, therefore, the costs wouldnt rise. So, thats a little different approach, probably one that wouldnt fly very well here, but a different approach to the cost problem.

DR. GINSBURG: Norm.

MR. FIDEL: Another anecdote is look what happened in the U.S. versus Japan in the last three or four years, when the user fee system was established in the U.S. about 1994. We had an instant acceleration of new drug approvals in the U.S. We were averaging 20 to 25 new chemical entities being approved per year, up through about 1995, and then it shot up to 30 to 50 in each of the last few years.

At the same time, Japan took the exact opposite approach. In order to contain their budget, they stopped approving drugs and between 1995 and 1997 there were virtually no drugs approved in Japan.

In fact, 70 percent of all the new drugs that have been approved in the industrialized world since 1995 have not been approved yet in Japan.

So, whats been the result? Well, Japan now has finally decided theyll change that. As of April 2000 theyre going to a one-year review process. Theyre no longer going to require clinical trials in Japan in order to get a product approved. So, theyre--even in Japan, where you wouldnt think that theres much pressure on the government of what to do, they did give in.

Now, it may be they are just setting up these rules and wont observe them. They can in the 11th month tell the drug company, well, we found this in your clinical data, youll have to come up with an answer to this. It doesnt mean theyll approve them, but at least they are forced because of the international pressures to be in line with the rest of the industrialized world, to not use non-approvals as a mechanism of budget control.

DR. GINSBURG: Karen?

MS. BOEZI: I would just add one more thing. I do think that technology is going to drive the U.S. health care system to one of designed benefits and to one where the wealthiest people get the best care because I think that plans will institute multi-tiered systems where if you want the latest, the greatest, the best technology, you will personally have to pay a higher portion, you will personally have to pay a higher co-pay to get access to that technology.

DR. GINSBURG: Yes. Has anyone seen examples of that happening yet? Or is it still something that we are anticipating happening in the future?

MS. WIDNER: How about cosmetic surgery? Face-lifts?

DR. GINSBURG: Yes. But I think weve always had that. Thats right. But in the sense as far as things are not considered lifestyle but are extremely expensive. Now, I wonder when we will see the first example of someone writing a health insurance policy, if they are able to, that says certain, very extremely expensive cutting-edge technologies they are not covered.

MR. HARRIS: Well, I think already the lines between lifestyle and medical necessity are starting to get blurred. I mean the whole Viagra debate and then use of certain drugs for shyness, I mean I think and other things. No, I mean its, you know, making, coming into the market.

I think that debate is being taken on and I think the health plans, at least in the last year or so, I would say, have had some success, modest, but some success in blurring that line a little bit between lifestyle and medical necessity.

And I would think that line will continue to be blurred and challenged.

DR. GINSBURG: Okay.

MS. BOEZI: Yes. Again, I have read that about 21 percent of all HMOs plans have some sort of multi-tiered system in place for drugs already at this point. And I think Ive read that the United Health Care in 45 percent of their plans, they have this three-tiered system for drugs, as well.

So, youre starting to see it in the drug sector for sure.

DR. GINSBURG: So, maybe this will where the system gains experience on multi-tiered doing it through drugs and perhaps it will then gravitate into other services that arent drugs.

I need to move on. One thing, a final cost driver, and this has implications for a lot of the delivery system as well as for costs, is what about negotiations between health plans and physicians and hospitals, as to--do you see any trends of, you know, whose bargaining power is growing? You know, what positive or negative contributions to cost trends will come from new provider payment rates?

Norm?

MR. FIDEL: I remember last year on this panel some people thought that the providers were gaining in terms of the relationship there, and I dont think that has really happened. It has happened in some cases where a provider group has an extremely regional market presence and has really gone to the wire as far as negotiating and have gotten double digit rate increases this year.

But on average, if you look at the rate increases plans have gotten, the providers have not shared equally in those rate increases.

I would say that of that 7 percent rate increase in the commercial side of the business that plans are realizing this year, that on average providers are only averaging about a 2 percent rate increase. Now, it was negative for providers two years ago, so, its an improvement.

But margins are increasing for plans and partly because their rate increases are larger than the provider rate increases. So, there are very few provider groups that have regional market share as big as some of the plans in that market. Its just much more difficult except for some hospital areas, the rest of the provider chain usually its a lower percent of the market.

So, the plans who have access to the marketing, have access to controlling the pricing, not the providers, they still have the advantage in that bargaining situation and only where there is extraordinary market presence by the provider is that shifting.

DR. GINSBURG: Geoff?

MR. HARRIS: Yes, just a couple of anecdotes to follow, I think in Philadelphia, for example, a fairly big deal was made in the press that some of the Thomas Jefferson Health System hospitals were in a tough negotiation with Aetna and were, in essence, holding them hostage in that market. But what I dont think was relayed as well was that these were three hospitals out of 72 hospitals that Aetnas contracting with in that marketplace, and also ultimately the rate increases that the hospitals got were well within the budgeted amounts that the plan expected to spend.

I think the one example out there of a provider system getting a big rate increase, which is one of the examples--an example of what Norm pointed to of a delivery system having a real geographic concentration was Columbias negotiation with Humana, and that got a lot of press, although, again, I would point out that the original contracts that they had with Humana were way below market. There was a legacy contract from when Humana sold some hospitals to Columbia. So even there, even though that got a lot of press, I dont think that signals a broad trend toward provider power versus payers. I think that was a unique situation based on Columbias leverage and an artificially low price going into it.

DR. GINSBURG: Joy should comment on what weve seen in the site visits.

DR. GROSSMAN: Im glad that you have had a similar experience, perhaps I should say. In our site visits, we found this and there was this sort of disconnect between what you heard in the press and what were seeing in our markets.

There are certainly some examples of providers through their consolidation efforts doing better in terms of pricing in their contracts, but a lot of those gains, for example, with Tenet, I think is a really good example, that in a number of their markets they havent been successful in the way they expected in terms of gaining in the price area.

And I think California is a very good example of this because providers have gone pretty far in the consolidation effort, particularly physicians, relative to other markets, and we saw in the last few years that theyve been squeezed on the price side to the point that theyve had really significant financial problems. And they are--this is a market where they take on a lot of risk, and they were trying to expand the range of services that they covered, and they, in fact, have not been successful even with these financial crises over the past two years in getting an increase from the plans, and theres kind of a tug of war going on there.

And so I think thats a really salient example of where youd maybe expect to see some leverage, and we just havent seen it at all.

MS. WIDNER: But dont you think that the industry is a little bit--at least the physicians, and well get on to that later, Im sure. But theres sort of an infancy stage in terms of organizing and becoming businesses as a group, although, Geoff, you know better, but versus the HMOs which are almost in adolescent stage and, in contrast, the pharmaceuticals are in, you know, midlife area. I mean, its just what their maturity level is in terms of their business systems and their negotiating leverage, and their power in their respective markets.

But once everybody gets up to, you know, adult stage, dont you think then well have a really different shift of power and negotiation once the physicians figure out their systems and their costs and the hospitals sort of can get their true costs and software systems up to date, particularly in the outpatient area.

DR. GINSBURG: Geoff?

MR. HARRIS: I dont know if the physicians will necessarily do it through a business model. I mean, certainly the PPM--I guess wed call it an experiment now because it didnt work very well, but the PPM initiative, at least in the public markets, didnt work very well. But one thing that is happening, I know, in some states is there are--youre starting to see more collective bargaining activity in the physician community. I know theres some legislation pending right now in Texas that may give physicians more ability to take collective bargaining action than theyve had previously.

I guess in theory that might improve their bargaining power, but at the end of the day--I think I really agree with Norms comments that at the end of the day this is economics, and there is a surplus of provider capacity in most markets around the country. And so you can stop-gap measures through bargaining, legislation, and so forth, but at the end of the day economics rules. And if theres an excess of capacity and its fairly fragmented in most markets, I still think the health plans will have the upper hand.

MS. BOEZI: But I would agree with Pat. I think you look at hospitals, 56 percent of our hospitals are still free-standing, and the latest data from 1997, over 50 percent of all physicians practice in groups of two to three. So to the extent that I think that the excess capacity is eliminated and the providers become more monopolistic or oligopolistic, if I can pronounce the word, you will see, I think, more leverage and more bargaining power.

DR. GROSSMAN: I will say one phenomenon weve seen in our sites is while the providers dont necessarily have a lot of leverage in terms of pricing, they are sort of standing up on terms of the contract. For example, in California, in terms of the pharmacy risk contracts, theyre not getting out of them. The providers were asking for them. They got into trouble. They dont really know how to manage benefits any better than the plans do, certainly. But theyre getting a scale-back in terms of the risks theyre bearing relative to the plans in the newer contracts, or theyre freezing the point-of-service enrollment because theyre finding they cant manage it. And so theyre saying, well, well continue to carry these patients that we have already, but were not going to take any more, you know, under this contract.

So, I mean, theres a little bit--it seems like theyre standing up more on the day-to-day and some comments from plans that the providers are getting more aggressive. And I dont know how consistent that is, you know, across markets because theyre really still on this anecdote sort of--you know, specific examples, but I think that certainly is a potential trend.

DR. GINSBURG: I have a sense from in our site visit experience that theres a great deal of exploring the market by both the health plans and the providers in a sense who are not used to this bargaining position, so that there are a number of anecdotes about plans are under great pressure for that premium, so they cut their physician payments. And I think for the most part theyve stuck. But yet we do see incidents in various areas where a physician organization, say an independent practice association, says no and that often gets a lot of coverage and in some cases they decide that they really can get along without that payer.

So I think were probably early on into a process of a market sorting itself out of the players testing how much power they have, although my sense is that the typical situation is that at least the physicians have lost ground relative to the health plans.

Pat?

MS. WIDNER: Two comments on that, one on the physicians. I think every HMO, at least the ones that Ive visited mostly in the California area, actually know--and Aetna, sample size of maybe five, have all said for the year 2000 and plus that they really cant cut the physicians anymore. Theyve sort of stopped. That I thought was a policy change that Ive seen, actually.

The second thing I want to mention is that I like to use the drugstores as a great example of provider pushback because drugstores are providers. Over 50 percent of their revenue is from drugs, and, therefore, thats a pharmacist provider.

And so about two years ago they actually, quote-unquote, drew the line in the sand, and the reason why they can do that is theres four major chains: Walgreen, CVS, Rite-Aid, and Eckerd. And they basically have the majority of the managed care contracts. In fact, 85 percent of their drug revenue is from third-party payers and only 15 percent of their drug revenue is from cash buyers of drugs.

They drew the line in the sand because their dispensing fee, which was typically the area of, you know, where the HMOs wouldnt pay them any more--they would pay for the drug, but they didnt want to pay for the pharmacists service of dispensing a drug--was getting cut. And the pharm--and all the pharmacies basically said, No way, were not going to take this; if you want your managed care contract, go find, you know, 20,000 pharmacies and line them up to take that.

That was very effective because you can see that the gross margin decline in the pharmaceutical side of the drugstore business has actually stopped, and thats a big event. That was the big event in 1999 for the drugstores in 1998. So they had power and they pushed back, and it worked. But it took a lot of consolidation amongst the drugstores to do it, and, again, theyre only 12 to 15 percent of the pass-through of the drugs, you know, of the HMOs expenditures. But it was a very successful example.

But I think the drugstores in the end are really in probably the midlife stage as well of their evolution of their particular industry as opposed to the physicians and the hospitals, which are a little bit younger.

DR. GINSBURG: Okay. Let me go on to another topic. This is a topic about health insurance products, and weve noticed that enrollment in PPOs has grown much faster than HMO enrollment, and even more recently faster than point-of-service plan enrollment, despite the introduction of more open access products.

What are the implications of this trend for plan or product competition? And what are these PPOs? Are they traditional PPOs that are just getting discounts, or are they adopting more of the management mechanisms of HMOs and POS plans? Geoff?

MR. HARRIS: I think, first of all, their growth is a function of what we discussed earlier, and that is that with the modest trend over the last several years, people have focused their energies on getting more choice. And they can get that through point of service and PPO as opposed to the typical closed panel HMO, and the closed panel HMO enrollment is actually slightly down as a percentage of total over the last couple of years.

In terms of what are these PPOs, I think theyre in many cases probably traditional PPOs where the payers are getting a percentage of charges as a discount. Theyre probably layering a little bit more managed care on top of them in terms of utilization review and maybe drug formularies. But I think the interesting question going forward is now that were in an environment of rising and potentially rapidly rising premiums as to whether you begin to get--this thing comes full circle where all of a sudden people make the election to begin giving up some of the recently found choice and freedom when they see what its costing them in terms of the premium increases.

So I think you could well have a resurgence--its not going to be this year or next year, but, again, maybe 2001, 2002--in more of the closed panel products, if, in fact, they can demonstrate a lower level of cost and lower premium increases.

DR. GINSBURG: Geoff, if I could follow up, do you see much of this happening through decisions that employers make as far as what products they offer their employees, first as decisions that employees make who have a choice and are making different choices and their response?

MR. HARRIS: I dont have a very good feel for that specific questions, but I do think that the employers have been under a lot of pressure, though, to offer more choice and, defensively, certainly not to reduce the amount of choice in order to hang onto employees, but Im not sure where--maybe some of the other panelists have a comment as to where specifically that shift in enrollment growth, if you will, is taking place, whether its just individuals choosing between a menu or whether its the addition of this choice, but I just dont have a good feel for that.

DR. GINSBURG: Sure. Norm?

MR. FIDEL: I would say its the individual thats making the choice. Most will have a choice of different plans, and so its rare that a company has gone to only offering a PPO rather than an HMO. So I think it reflects just this general preference towards freedom that weve seen, which has resulted in a higher cost trend since these types of plans have higher premiums and higher premium rate increases than traditional HMOs. So thats one of the factors thats contributed to the rising cost trend.

DR. GINSBURG: Good. I want to turn to the topic of physicians accepting risk or physician organizations accepting risk. Geoff mentioned before the failure of the physician practice management company experiments, and I think weve also picked up things in site visits about either large-group practices or independent practice associations having difficulty managing in a risk environment. And I was wondering between these two things, what do you see is the future for physicians accepting more global capitation risk from the health plans? Geoff?

MR. HARRIS: I think the quick answer is that there is no future or that its certainly substantially diminished. I think the--I mean, a common physician attitude I think sometimes in the physician community--you hear it sometimes--is, you know, that health plans really dont do very much, and why should they make a profit off the services that we provide. And I think that physician practice companies in a sense may have felt that as well, and so they began taking on risk, in other words, taking on a lot of the function of the health plans. And it was more than just taking on risk. Many of them started processing their own claims and really the health plan was left as more of an enrollment or fronting organization with all of the other activities being taken on by the physician practice companies.

I think what theyve learned the hard way, through bankruptcies in some cases, such as in FPA Medical or Complete Management or near bankruptcies in MedPartners, is that this isnt so easy and that the health plans do have a role, they do add value. They take risk, they process claims. They may not always do it very well, but theyre clearly doing something that isnt very easy to do. And I think that the result of that is that the physician practice entities that have gotten large and were taking global risk, youre basically seeing them disaggregate now. And while they may take some risk on a local level, I think that the grand scheme of big physician practice entities taking global risk in broad markets--I mean, unless something changes very dramatically, its been a big failure.

I might just add one more comment. These things get tried over and over again through the years in different formats. I remember in the--I think it was really in the mid-1980s, even, Humana tried very heavy capitation arrangements or risk arrangements, in this case with individual physicians, in Florida in particular on the Medicare risk products. And they had terrible problems because the physicians would take the capitation payment, didnt necessarily understand the risks they were taking. A lot of the money was spent on other things, and then the due bill came and they didnt have sufficient funds.

So its been tried on the individual physician basis, and its been tried on these big organized groups. And Id say so far the experiments have not gone terribly well.

DR. GINSBURG: Karen?

MS. BOEZI: Just to add to what Geoff has said, Ive heard the terminology "decapitation" where the term is very--

[Laughter.]

MS. BOEZI: To move back from these capitation arrangements. I think if you look at a physician or provider group, they really just dont have even--not only the infrastructure to manage the capitated contracts, they dont have the numbers over which to spread the risk. And so its hard for them from an actuarial standpoint to even take on the risk.

What I do think youre going to see--and, again, going back to a trend weve discussed--is the risk being shifted from the provider back to the health plan, but then back onto the consumer, again, with this whole defined benefits concept.

DR. GINSBURG: Yes?

MR. FIDEL: Well, another thought is that remember where we were in the underwriting cycle, and we were at a period where there was blood in the water all over, both in the plan side and the provider side. So we read about the provider failures in capitation, but, again, they have a smaller capital base, they have a smaller--especially on a regional basis, usually a smaller presence. So its a tough part of the cycle, whereas a plan may have just had red ink in some cases, in the provider side they just had to fold up shop.

Another factor was that for many years, especially in California, the Medicare side of the business was subsidizing the PPM group. They were getting very good rate increases under the old method of payment for Medicare risk. They were in mid-single digits, high single digits, and with BBA bringing those rate increases down to 2 percent or a little bit more, all of a sudden the reverse is true now, and the commercial side has to subsidize the Medicare side. So this sort of--both came at the same time, the bad part of the underwriting cycle on the commercial side as well as a reduction in reimbursement increases on the Medicare side.

So, you know, I would assume after two or three years of good rate increases, people will start seeing maybe more capitation again because times will be flusher and people will be more adventuresome and willing to try something.

DR. GINSBURG: Yes, Geoff?

MR. HARRIS: Just a follow-on. There was a huge influx of provider-sponsored plans in 1994, 95, and 96, and I think part of it came out of the fact that they were being assaulted in many ways by managed care.

Additionally, the health plans were at peak profitability, so it looked like it was very enticing. The health plan returns on capital and equity in 1994 were up in the 35, 40 percent range. So providers, whether medical groups or hospitals, said, Wow, were getting hurt by these entities, theyre all making a lot of money, lets get into the business.

And if you look in recent statistics, there are many states like Texas, Illinois, Missouri, Michigan, major states where a third to a half of the health plan licenses--not necessarily membership but a third to a half of the health plan licenses are, in fact, provider-owned.

But the follow-on story to that is theyre all losing money. They came in at the wrong time, as Norm pointed out, and on top of that they have some structural disadvantages in that they cant spread the risk over as large a number of members. They may not have had the management capability, and I guess one other point is theyve also come into the market at a time when the product offering thats been most attractive has been the PPO and point of service, which implies choice. If youre a provider-sponsored plan, clearly almost by definition youre offering your own provider groups and youre eliminating choice.

So it was almost all of the wrong things happening at the same time just when they got into the business. Now theyre starting to get out.

DR. GINSBURG: Joy?

DR. GROSSMAN: Yes, I wanted to bring up an example from one of our sites, Indianapolis. This is a market thats dominated by four large hospital systems, and theyve vertically integrated in every direction, so they own health plans. And in this market, actually, theyve been fairly successful because there arent a lot of strong health plan players in this market, and they also have purchased physician practices. They have IPAs, MSOs, and PHOs.

The last time when we were there in 1996 they were actively pursuing global capitation payments. Well, they only had about 20 percent HMO penetration in that market. They were looking for global cap. And in a return visit, we found that they were, in fact, backing away from this, in part because of this issue of cycle, that they got hit by pharmacy costs and things like that. But its also the case that the physicians and the hospitals werent figure out exactly how to share the pot and that they each thought they might do better on their own with the health plans.

So theres a lot of levels to this issue of if you try to take global cap, you know, whos going to bear this risk? How large does the organization have to be?

On the other hand, these hospital systems have a lot of money, and theyre not responding to Wall Street so they can sit it out. So its kind of unclear. And thats a unique example, but--

MS. WIDNER: But doesnt global cap for a hospital imply that all the beds would be empty if they really did it right?

[Laughter.]

MS. WIDNER: And thats not their business. So I think theres a risk there or inherent motivation that is contrary to what the deal is.

DR. GROSSMAN: Well, except that theyve tried to vertically integrate, and in theory, they can take the money anywhere.

DR. GINSBURG: Yes.

MR. HARRIS: Just one--this is just a Wall Street view, and I think it would be confirmed by the other panelists. Anytime you hear vertical integration, you hear vertical integration strategy, get out. And thats in both directions. If its health plan going to provider, they have not worked. If its provider going to health plan, they havent worked. At least on the Wall Street side.

DR. GINSBURG: Actually, this is one of our major findings across the sites this round, was getting away from vertical integration in many dimensions.

What is the implication for care management? In a sense, I guess this means that some of the visions of physicians that they and their colleagues would play a more active role in managing care seems to be that that wont come about at least for the next few years, and this will be passed back to the health plans. Whats your sense of--are the health plans ready to do more? Are they doing a lot now? Will they be doing more in the future? Or is this era where their customers are not asking for a lot of management, in a sense does it mean that theres just going to be less management and thats part of the story why the physician organizations are getting out of the risk business? Norm?

MR. FIDEL: Well, its just, you know, when youre getting 7 to 8 percent rate increases, its a lot easier to do business than when youre getting zero. And so much of what we talk about, you know, we think about how well are things being managed, but a lot of it just comes down to, you know, when youre getting good rate increases, you can do a lot of things; and when youre not, you cant do a lot of things. And so much is dependent on how much are those rate increases.

So were in a period now of very flush rate increases, improving margins, so its a time when they can certainly take back the medical risk, especially when theyre paying their providers with rate increases that are less than what theyre getting themselves.

DR. GINSBURG: Karen?

MS. BOEZI: In the companies that Ive been looking at, Ive been doing a fair amount of research in the hospitalist area and several other areas. Im seeing still a lot of case rate risk management where theyre still reimbursing physicians based on a individual patient, an individual case. And so I think youre going to continue to see that kind of management versus over a full population.

DR. GINSBURG: Yes, thats a good point.

Geoff?

MR. HARRIS: I would just make a comment that--again, this is really from a pure Wall Street or financial perspective. In the 90 to 94 time frame, call it, when the industry was growing rapidly and doing well, I think a lot of the focus on the company presentations to analysts and investors and a lot of our questions revolved around precisely this topic. It was: What are you doing to better manage costs, improve patient care, and so forth?

Ive got to tell you, the last two to three years, the questions have changed completely to: Are you paying your physicians in a timely way? Are you processing your claims in a way that gives you enough information to assess your future liabilities and, therefore, accurately estimate your reserves? And what is your pricing? And how are you changing your benefit designs?

I think a little bit of the Wall Street assumption--people have become very cynical--is that these companies really dont manage their costs terribly well, and all we care about now is do they manage the business and price according to the cost trend. Its a completely different set of questions.

Now, maybe, as Norm points out, if the margins begin to improve again, people get the sense that theyve got the costs relative to the premiums under better control, the questions and topics will shift back to these more interesting, forward-looking ideas on how to better manage care. But right now were happy to find companies that are pricing above their trend and that are paying their claims. Thats great.

[Laughter.]

DR. GINSBURG: Pat?

MS. WIDNER: That being said, though, I think there are certain patient populations that the HMOs have figured out in this down cycle that are really hard to manage or are very expensive, for one--the asthma, the diabetic population are two examples. And they have through help of the pharmaceutical companies, of course, and some disease management companies that are free-standing, that are expert in this area, have done some patient population surveys and have tried to take a proactive role in managing, for example, pediatric asthmatics who have a high emergency room admission and subsequent admission rate.

So, I mean, I dont think they have ignored the health care problems and the cross-managements. I think they have attacked it to go after the high-cost areas, and there are certain patient populations that are very obvious and very costly. And I think theyre going there. So Im hopeful that that trend, actually, the top-down approach to screening and patient management, will continue.

MS. BOEZI: Just to add to Pats statement, I recently heard some data that said that 15 percent of the commercial population incurs 85 percent of all health care costs, and 5 percent of the Medicare population incurs 45 percent of all the costs. So there is very much a focus on these chronic, debilitating illnesses and managing those.

DR. GINSBURG: Yes. So this actually is in a sense what were seeing of, say, a lot of technology and energy being applied at the plan level to take these management initiatives, not counting on provider organizations to take over.

Okay. Ive got two remaining questions for this segment of the meeting, and theyre about mergers and consolidations. The first one is about consolidations among health plans, some of the--talking both about the national mergers of for-profit insurers and some of the regional mergers of Blue Cross/Blue Shield plans. And the question is: What has been achieved or not achieved from these consolidations? Have there been scale and scope economies realized? Has there been an increase of leverage with either the purchasers or the providers from these consolidations? Norm?

MR. FIDEL: Well, the experience has been so varied, I dont think any of us could say whether its been good or bad, because it came at a time when we were at that end of the cycle. And a lot of these combinations that happen seemed like they werent working, but it may have just been also that it was a very difficult period for the industry.

And we have found that in the first year or two of these combinations that that is the high-risk period because the management information systems have to be integrated, all the call and service center consolidations take place at the risk of compromising the service to the insured. And just before and after a merger, plans that are combining are most vulnerable to losing accounts to the competition, who come into their accounts and say, you know, theres going to be a lot of uncertainty with this merger.

But I think overall, after weve gotten through the one or two years, its looked better than it did initially. But I think it comes down to that if two plans merge regionally, you do increase your market power. Two national firms merging may help your ASO business, but I dont think it does too much for you on the real at-risk plan side of the business.

So, yes, I think two regional plans getting together increases their market share, increases their leverage with providers, and can be a very positive outcome. And I dont think weve seen the end of consolidations. Its going to continue.

DR. GINSBURG: Okay. Everyone agrees with that. Okay.

Lets go on to the hospital system mergers. Weve seen in site visits some, what we call multi-market hospital system mergers, which, you know, often involved a nonprofit hospital merging with another non-profit hospital in a market thats quite distinct.

Have you seen any sense of their potential or success? Geoff?

MR. HARRIS: Just a comment here. I think that if you have provider consolidations within an existing market within a fairly tight geographic area, there can clearly be benefits to that provider in terms of cost and in terms of perhaps some negotiating leverage.

Where it actually breaks down, it can actually work against the provider, is if you do consolidations across a lot of different disparate markets. Ill give you a very specific example.

Columbia, as we talked about earlier, has a lot of concentration in Florida. They also clearly have hospitals all over the place, and, specifically, they had--and I emphasize "had"--a lot of hospitals in Chicago but they never had the dominance there.

When they were negotiating with Humana, which has a big presence in Florida and in Chicago, in prior years, Humana would hold hostage the Florida negotiations to what they were doing in Chicago, and Humana had the upper hand there because Columbia didnt have the mass. So Humana could play off the Chicago market versus the Florida market. So that was a case where having a lot of hospitals under one system actually hurt them because they kept having to give up stuff--give up rates in Florida in order to get what they needed in Chicago.

What Columbia has done is theyve divested virtually all, if not all their Chicago facilities. So now when they negotiate for Florida, theyre negotiating for Florida alone.

Im exaggerating the point a bit, but I think in that case, having real regional or local dominance is a benefit. Having a bunch of hospitals spread all over the place, Im not sure you get anything, and it could actually hurt you.

DR. GINSBURG: Yes?

MR. FIDEL: A follow-up point to that is very interesting. Now these spin-offs from Columbia, Triad and Lifepoint, if you talk to them, they say a lot of the national programs that Columbia had werent necessarily to their advantage and that perhaps on a more local level, despite the thoughts that you think that national economies of scale would always be positive, sometimes it doesnt work for the best interest of a particular area.

So, I mean, its just so hard to draw general rules and to see it always happen that way, and health care is very regional. Its not national. And that fact just keeps coming back and back to us.

DR. GINSBURG: Yes, so you--oh, Pat?

MS. WIDNER: Wasnt there the recent Rand study that showed that the benefits of consolidation for the not-for-profits were just as strong as the benefits of consolidation for for-profit hospitals? I think that just came out this year sometime, and I think we have to sort of not just cut this consolidation argument on the for-profit only side. I think the FTC has been very generous in mergers with the not-for-profit hospitals, and I think were beginning to see some of that benefit with this Rand study.

So there is benefit, and I think it will probably be better over time.

DR. GINSBURG: Yes, I mean, youre talking from--

MS. WIDNER: Local markets.

DR. GINSBURG: From the hospital perspective.

MS. WIDNER: From the hospital--

DR. GINSBURG: Rather than the people that they deal with.

Yes, so, in a sense, what Im getting is that theres a lot of skepticism here. Weve seen in two sites a non-profit hospital purchased by a non-profit system headquartered elsewhere which was not in that community at all, so they didnt build share in that community. And Im sensing here a lot of skepticism about, you know, there are no natural huge advantages of that. There are some disadvantages that could weigh it down.

MS. BOEZI: I would say theres one advantage, but I think the disadvantages outweigh the advantage, and that is, you have seen these multi-market hospital systems been able to exert quite a bit of leverage on the suppliers of medical devices and hospital supplies. So there have been discounts on kind of the cost side of the equation, but theyve been outweighed, I think, by the disadvantages.

MR. HARRIS: Yes, and also I think that the group purchasing organizations, the GPOs, can serve as a proxy for actually having to be linked officially. So thats some advantage.

DR. GINSBURG: Yes, Pat?

MS. WIDNER: And theres another side in terms of leverage, what are the points of leverage. HMA, for instance, has, I think, maybe six, eight hospitals in Mississippi, and recently Mississippi cut its Medicaid rates, and HMA got whacked on that. And here they had probably--they had the largest, I would venture to guess, probably the largest ownership of hospitals in the state, and they did not suffer--or did not gain any leverage in negotiations with the state on Medicaid rates. So here you would think the leverage would be bigger because its broader--its a statewide thing--and it didnt happen.

DR. GINSBURG: Yes. Good. This is a good time for our break. Please, before you leave your seats, if you could pass down your question cards to the center aisle, and theyll be picked up. Well resume 10 minutes from now at 10:34.

[Recess.]

DR. GINSBURG: Id appreciate it if you could take your seats. Wed like to get started. We have a good supply of questions from the audience. Please take your seats.

Id like to begin with the first question, which is following up from some of the discussions about the increased profit margins that health plans are expected to earn, and the question is: What are plans doing with the increased margins? Will increased margins lead to them investing more in information technology, or will it simply be passed onto shareholders? Which in a sense is a general thing, that in either the predominantly non-profit environment of hospitals or in the predominantly for-profit environment of health plans, to what extent does the current profitability affect investments in new businesses, say? Geoff? Norm?

MR. FIDEL: Well, you had first said MIS, and theres another issue, the Y2K thing, which I think has deferred a lot of clinical-type programs, and everyone has been focused on the financial and administrative side of things to make sure theyll be compliant with Y2K. So there has been a big deferral of those projects which will come sometime after the beginning of 2000 that theyll have to be investing in. So, you know, I dont think well see a big decrease in information spending. It will probably continue to increase at a rapid rate because a lot of those programs have been deferred.

As far as what will plans do with their plusher profit margins, given that six months ago a lot of them werent thinking they had flush profit margins, I think they havent thought about that yet. I think they just want to get back to a normalized level.

I think the plans that are in the Medicare business are very concerned about the future of that business. If the risk adjusters go through as Congress has passed them, I think it will essentially be the end of risk Medicare as a business, particularly if Medicare, traditional Medicare, takes on a drug benefit.

Between those two factors, the future beyond 2000 of Medicare risk is very problematic. Before they start spending money, they have to--for those that are in the Medicare business, they have to come to a decision on to what extent theyre going to be in that business. Because the way things are going now, it doesnt make sense on the bottom line to be in that business if theyre going to be facing on average 6 to 7 percent reimbursement cuts after the year 2000 as risk adjusters come into play.

DR. GINSBURG: Were going to get into that in more depth when we get into the policy section. But any other--before the Medicare risk business, do you have a comment, Geoff?

MR. HARRIS: Yes. I just wanted to--often the question is posed as though these items are mutually exclusive. In other words, a company can give all the money it makes to shareholders versus reinvesting in the business. I think the reality is that a company is always balancing those two, but if a company in any business, including the health plan business, earns money and just returns it all to shareholders, eventually theyll be out of business.

So theres always a balancing act between how much goes to shareholders and how much goes to new investment, which ultimately down the road should drive a higher return for shareholders. I dont see them as mutually exclusive. In fact, theyre mutually dependent. You cannot run a business forever and just return cash to shareholders.

I think right now, just building off Norms comments, is that given the depressed margins over the last few years, I think youll see more of the cash thats coming in today go to just accumulation. In other words, theyll build on the balance sheet. Theyll rebuild reserves. Youre seeing some companies take advantage of depressed stock prices today to buy in their stock. Thats a good investment for them to make today.

But, ultimately, some of that margin, improved margin in cash is going to go into investment in order to have sustainable businesses down the road.

DR. GINSBURG: Good. Ive got another question. What does all this, what weve talked about this morning so far, mean for capital flows? Where does Wall Street see the investment opportunities and the risk? And it says: What segments of the health care do you see being attractive to new capital? Karen?

MS. BOEZI: Well, in 1999, youre seeing a huge decrease in the amount of capital thats flowing into public companies. I added up the total for devices, biotech, and services, and between IPO and follow-on offerings the total is down in just the first five months of this year by about $4.5 billion.

And on the private side, youre seeing a small decrease in funding of private companies, but a much smaller percentage of total capital in terms of all venture capital raised. So I think the industry is going to have to do some kind of fundamental turn-around here to attract new capital as well as some of the strong sectors of the economy right now, the large cap stocks as well as some of the telecommunications and Internet stocks, to perform at a less high level.

DR. GINSBURG: Geoff?

MR. HARRIS: Its been years, literally years, probably since 94, that weve had new capital from the public markets, equity markets, flow into the managed care, and I think its even true in the hospital segments. There have been a couple of big transactions, one just announced a day or two ago from Wellpoint, for example, selling stock. But thats secondary shares. Those are shares that are owned by a foundation. Theyre being sold. So thats just capital moving around from one owner to another. Thats not capital going into the industry.

In fact, I would argue on the health plan side capital has been going out because a lot of the cash that the companies have started to generate over the last couple of quarters has gone to share buybacks. Thats returning capital to investors.

DR. GINSBURG: Norm?

MR. FIDEL: We went through about a two-year period in the mid-1990s where the investment community was wondering what kind of Medicare reform we would have, and it ended with the balanced budget amendment, which has been very problematic for the health services business. Probably managed care has so far felt the brunt of it the least of the service sectors, although, again, if risk adjusters happen, its going to be a bit hit for them. But if you look at the facilities-based service business, they have literally been decimated by BBA.

So we went through a two-year period of uncertainty as to what the rules would be. Usually things get better after Congress finally makes their decision, when you know what the new rules are and companies can adjust to them. But the effects of BBA have been so much more dramatic than what Congress expected and what the companies expected that its literally been devastating for the service health care business.

You know, there are still thoughts that its not going to get worse, and so companies will be able to adjust. Maybe Congress will make some adjustments in BBA. But by the time that happens and probably the amount that they adjust it, its going to be too little too late. So its been a real problem for investors in the service side of health care, especially at a time when the product side has been in boom times, and the disparity in the money flows going into the produce side of health care versus service in the last four years has been absolutely enormous.

DR. GINSBURG: Pat?

MS. WIDNER: I just want to say one thing. I will echo what my panelists have said. But with the Y2K election coming up, presidential election, and this all not being--all of our Medicare provider problems, et cetera, not being solved and probably a big electoral issue, its not going to get better any time soon unless we come to some conclusion on what were going to do with our funding problem with Medicare. So this could be an ensuing problem.

DR. GINSBURG: Okay. Let me just do one more, and then well move on to the next panel.

What is the significance to Wall Street of the dropping of bond ratings in the not-for-profit hospital sector? What are going to be the implications of that for the health care system?

MR. HARRIS: I guess the only comment I would make is its just--one, its symbolic of whats going on, the after-effects of BBA; and, secondly, you are constraining--heres, I think, the importance. I think part of the view sometimes is if youre making capital access more difficult, all youre doing is, in quotes, "hurting"--I dont know--greedy investors or Wall Street. The reality is that--and for-profit entities.

I think what this suggests is that all aspects of the economy, whether theyre for-profit or not-for-profit, need capital. The whole economy, whether its not-for-profit or for-profit, functions on capital availability. And the legislative changes that have been put in place are making capital availabilty very difficult, whether you are not-for-profit or for-profit.

DR. GINSBURG: Pat?

MS. WIDNER: And it also increases in practical terms the yields that are required by an investor to buy a bond from a not-for-profit hospital. So if it increases the yield because the bond portfolio managers want somewhat of an excess return for the risk that they would have to take because the ratings on these bonds have gone down, and there will be stiffer terms by the bond insurance entities, like NDIA, et cetera; so as they charge more prices and the bond buyers want more of a premium return, the cost of capital goes up for hospitals, and that means that they have to meet that incremental jump in their cost. And if theyre getting flat rate increases from HCFA or whatever, theyre squeezing their margins and then they have to make some layoffs, et cetera. So its a downward spiral or domino effect.

DR. GINSBURG: Sure. Geoff?

MR. HARRIS: This just gets back to this issue of are profits and investment mutually exclusive or mutually dependent. My argument was theyre mutually dependent. I think the common view often is theyre mutually exclusive. So, again, you go back to the situation where you say, oh, okay, well change the dynamics of the business to take out excess profits or punish greedy investors or something. Really what youre doing is making a--if youre cutting off access to capital across for-profit or not-for-profit systems, theres a decision being made to invest less in these areas. Youre making a decision to, a long-term decision to destroy the infrastructure.

And when you look at the view today from the capital markets--Id just begin building on what Norm has said--because of policy, theres a--I think basically weve got a policy mandate to reduce the infrastructure or hurt the infrastructure on the services side of health care.

DR. GINSBURG: Actually, I wanted to give a follow-up to that. You know, people have been talking for a long time about excess capacity in the hospital industry. Is this healthy? Is this in a sense the way that the markets are going to get excess capacity out of the hospital industry?

MR. HARRIS: I would just leave--I mean, I think thats really less the purview of--well, Ill speak for myself--Wall Street people. Thats the purview of policymakers and society. I just think people should recognize, though, that thats the decision theyre making, that you cant--theyre not disconnected. The easy thing to say is, oh, well just squeeze out the profits, but well leave everything else the same. It doesnt work that way. You squeeze out the profits; youre going to have follow-on changes. You make capital more expensive; there will be follow-on implications for the system.

If thats a deliberate policy because we want to reduce capacity, thats a decision that people I think are entitled to make. But I think very often theres a separate--one of the famous quotes that Ill never forget from the health policy debate, the health plan debate in 93-94, was Mrs. Hillary Rodham Clinton stood up and said: We have the greatest health care delivery system in the world, and we have the stupidest or the worst financing system in the world.

I think theyre connected. You cant disconnect them. The reason we have the health care delivery system we have is because its been generously financed. And if you change the financing system, to think that then youre not going to have changes in the delivery system I think is a fundamental misunderstanding of economics.

DR. GINSBURG: I can see our panelists are itching to get into policy.

[Laughter.]

DR. GINSBURG: Because we anticipated that policy and its effect on the health care system would be more important this year than it has been in previous years, we devoted a larger amount of time, and Joy Grossman is going to lead the panel through a number of those topics.

DR. GROSSMAN: So well start off with what, of course, is on everybodys mind, which is Medicare and the impact of BBA, and I wanted to start out talking about the impact on providers, and specifically on acute-care providers. And since theres been such across-the-board cuts, well just open it up to everybody and ask you what you think is the most significant changes that have taken place. Norm?

MR. FIDEL: Well, I think looking backwards, the most significant was the freeze on hospitals, for--were talking about acute hospitals first.

DR. GROSSMAN: Yes.

MR. FIDEL: --on hospitals was the freeze, but now that will be past soon, and well start getting increases there. So for the future, the two most important changes are the transfer policy, particularly for hospitals with SNFs, and the other is the outpatient prospective payment system. Those are the two big ones for the hospitals coming.

MR. HARRIS: The only add-on I would make to that is that I think the freeze and the transfer payments have been most difficult for the urban hospital companies because they have had the--in particular, the transfer payments have made more use of skilled nursing facilities and home care and so forth as a means to shift costs. And also they have a relatively smaller percentage of their business driven from outpatient than do the rural hospitals.

The outpatient PPS, if it goes through, is going to hammer the rural hospitals, I think, relative to the urban hospitals, and that hasnt even been put in yet.

MR. FIDEL: For those rural hospitals with high costs, it should hammer them. But for rural hospitals that may have low costs, it could be a benefit for them.

MR. HARRIS: Well, I think thats true, but I also think theres the beneficiary copayment which has been based on charges--

MR. FIDEL: But even including that. If you are a rural hospital with lower costs and by the way the formula would work theoretically, the reimbursement could actually improve from what the cost-based system has been in the past for those rural hospitals.

But a lot is going to depend on how HCFA interprets the regulations, and we know from experience that you dont know that until after the fact, not before it.

MS. BOEZI: I would add the one other group that has been hit, which is partially urban hospitals, is teaching hospitals. Their adjustment factor has been reduced, and the number of residential interns that they can have on board has been restricted as well.

DR. GROSSMAN: The BBA hits--because they happened earlier in the last year, hospitals were looking pretty good relative to some of the other players in the market plans and physicians to some extent, and I think that hospitals have just begun to take account of the first hit from BBA, but there is also other things going on in terms of pharmaceuticals and other issues.

So I guess the question is how much of the trouble that some of these entities are in is coming from BBA specifically and how much of this is from the confluence of factors.

MR. FIDEL: Well, I think on the hospital side, it is mainly BBA. I mean, I think when we get into post-acute care, I think the blame is shared equally by the companies who have ventured into things that the reimbursement system rewarded them for in the past, whether it be ancillary services that are sold to other entities and leveraging the balance sheet and creating this huge cost structure between EBITDA and the bottom line. So that, when reimbursement got squeezed, companies that had mid-teens or higher EBITDA margins were actually losing money because of what they had done in terms of being aggressive in consolidation and other moves.

Again, with the hospitals, I think most of the grief is due to BBA, not due to what they were bringing on themselves.

MS. WIDNER: Not necessarily BBA-related, but in the home health area, for example, also that was highly--what there was were dependent, I think, on reimbursement as well, and so direct correlation between what Washington does and what happens to some of these companies.

DR. GROSSMAN: Norm, I just wanted to follow up since a lot of the audience here is not familiar with some of the financial terms like EBITDA and such. You might want to back up and explain that a little more.

MS. FIDEL: Well, EBITDA would be, you know, what your income is after just operating expenses, whether it be the cost of what you are providing.

SG&A and cost of goods sold, that type of thing, the costs between EBITDA and the bottom line are going to be things such as depreciation, the amortization of intangibles which could result from goodwill resulting from a lot of acquisitions above book value of what you have acquired, interest expense which again can reflect how aggressive you were in acquiring other entities.

So a lot of these companies in the post-acute care area were very aggressive in a lot of these maneuvers and built up this huge cost structure that was beyond just the ordinary operating expenses, but amortization, goodwill, interest expense, and so, when reimbursement got squeezed, it became curtains for those companies.

DR. GROSSMAN: In terms of talking about hospitals moving forward, you said that you think that transfer policy and outpatient payment are going to be the biggest areas, and I assume we dont exactly what is going to happen with all of these things, but there has been a fair amount of debate in Washington about what the ultimate impact is going to be on hospitals. So I guess the question is, do you see them doing perhaps less well than they were, but having reasonable margins, or is this really a significant hit? What is your take?

MR. FIDEL: I think it will bring--well, again, on the outpatient side, if you have high costs, it is going to be a big problem because--you know, because of the previous reimbursement system, a lot of things that hospitals did pushed costs onto the outpatient side, and that is why you see in the official numbers that supposedly outpatient is unprofitable, while inpatient is very profitable. It is not really like that. It is just how you allocate your costs.

So, if you have this high cost structure for your outpatient business because you were rewarded for that in the past and now you got a prospective payment, if your costs are higher, you are going to get hammered, but, then again, if your costs were low, if you managed your business as you may have managed it for your inpatient business to keep costs low, you theoretically would benefit from prospective payment.

These same things were said about the nursing home care industry, and it turned out that for almost everyone, prospective payment turned out to be a big burden. Again, it was how HCFA interpreted the rules, what the final payments were, and, again, a lot of ancillary services became a big problem for these companies because they were no longer rewarded for providing those services and it just became a cost rather than a revenue enhancer.

DR. GROSSMAN: I guess there is an argument here that there was a lot of cost-shifting going on, and, obviously, we are talking a lot about a lot of different specific examples of services.

To what extent, then, is this a positive thing that it is improving efficiency and that it is the high-cost providers who are the ones who are trying game the system that are going to hurt? I mean, is that--

MR. HARRIS: I think there, clearly, is a lot of cost-shifting going on in the acute care setting.

Only time will tell how much of the recent benefits in terms of reducing length of stay were a function of truly improved methods of care and efficiency versus shifting people into different cost-based settings, so they just didnt show up in the statistics.

I mean, we are going to find out over the next couple of years, and there is some anecdotal evidence that you may get some slight increase in length of stay because people cannot be discharged just down the hall to a cost-based unit anymore.

You also may get more admissions trends, in that some of the sicker patients that may have bene going to skilled nursing facilities there will have to get out of the Medicare business under the current scenario. I think a lot of those patients will back up into the hospital.

I think it all depends on your perspective. I mean, if you are asking from a policy perspective, this may be achieving exactly what we wanted. If you are talking from a company perspective, which is where we are focussed, I think Norms comments are on point that this has been very difficult for the acute care companies, the skilled nursing, the home care companies, and it will probably continue to be difficult for a while until they adjust to it.

DR. GROSSMAN: Talking, again, about the acute care providers, what od you think is going to be the biggest impact in terms of their response to the losses? What strategies are they going to put into place? Is there any spillover on the commercial side?

MR. HARRIS: One that is clear that we are seeing now, they are getting out of the home care business. They are getting out of the skilled nursing business. So they are shutting down the cost-based units that were the relief valve, if you will, from the DRGs. So those are two clear strategic changes that I think are evident today.

DR. GROSSMAN: What about spillover in terms of the commercial side, in terms of their need for better pricing on the commercial side or consolidation or any of those things?

MR. HARRIS: Again, I think a common viewpoint is, okay, they are getting squeezed on Medicare. So they are going to suddenly go back and raise commercial rates, but, remember, it is supply and demand that determines rates, not need.

So, to the extent that, sure, they may try to go back and get a little bit more commercial pricing, but, ultimately, what is going to determine commercial pricing is not what they are making or not making on Medicare. What is going to determine commercial pricing is what price the market will bear for those services in that marketplace. So there may be a little attempt to cost-shift back on the commercial side, but, again, this is very different from when DRGs went in, in 1983, when the ability to cost-shift back to commercial was there because there was no--there wasnt an organized health plan market that could fight back. A lot of people were just paying fee-for-service. So there was a clear ability to cost-shift then.

Here, I think it is much less clear. I think this is going to just comie out of the margins.

MR. FIDEL: Just as a side note, 85 percent of all the hospitals in the country are not-for-profit, and there has been a 1- to 2-percent reduction in beds, each of the last 10 years. So we have taken about 20 percent of the capacity out of the system, but with managed care, the need for the capacity has probably declined even more than that. So we are no further along to get to the right balance than we were 10 years ago, and it is tough to close a hospital because, if you are not-for-profit, there are reasons a community wants that hospital more than the economics. It is very tough to kill a hospital.

A lot of the reduced bed size has just been from effective shutting down of portions of hospitals, of wings. It has not been so much just closing of hospitals. That has been a big impediment to that. It is not just economics that is dictating whether a hospital stays in business or not.

DR. GROSSMAN: Lets shift and get into the post-acute issues. There is a bunch of different parties there. We have got SNF and home health and nursing homes, rehab, all the therapy providers and all that. So there is a whole range of parties here. So I dont know where you want to start and talk about maybe again the biggest impact.

MR. HARRIS: I will just make one comment, and this relates to the publicly traded post-acute companies.

If there is no change in the current legislation, they are going to go bankrupt. I think that is the bottom line.

We are already seeing two companies, Sun and Vencore, who are approaching it, and I think there will be others to follow.

The question, and Norm brought this up earlier, is this a function of the business being legislated to no profit, or is this a combination of that and these companies being over-levered, having too much debt? That can be debated back and forth, but I think in terms of the for-profit public sector, we just started on the first round of cuts related to BBA, and the industrys viewpoint, I think, is that they have taken as much as they can out of the operations. They can probably last another year or so, but if the cuts continue as they are scheduled to phase in, they have got serious problems.

MS. BOEZI: I think the home health industry, getting back to your question, Joy, in terms of the hardest hit, I think it has really been the home health industry. In 97 and 98, $3 billion was taken out of the system, and pre-visit limits were cut 12 percent. There was an annual limit of $3,300. They are really limited to the amount of general overhead that you could basically tack in. You are just seeing mass defection from the market right now, and I think that the quality of care has really been impacted as well.

MR. HARRIS: I think there have been 2,500 or so home care agencies shut down over the last year and a half or so. It is a pretty dramatic number.

The public markets, in terms of basic home nursing, there really are no players safe. The one that I can think of is Alston, which is a big player in the business. There were public players, and they were often tied with staffing companies and those companies, more general staffing companies for industrial and so forth. Those companies have all gotten out of the home nursing business. They couldnt make any money there.

Alston is still in it. They are large, and it is still a very tough business for them because of the changes in reimbursement related to BBA.

MR. FIDEL: I think rehab therapy in nursing homes has been hit just as hard as the home nursing business. The drops in utilization are 50 percent-plus year to year in the use of rehab services in nursing homes.

Again, part of this was due to over-aggressive expansion in that business, probably over-utilization to some extent, and it has just gone full circle.

Companies have literally had to reduce their cost structures by 50 percent or more just not even to make money, just to stay in business, and a lot of them wont stay in business.

There are all kinds of limits that were put on as far as what a nursing home patient can--the therapy treatment they can receive.

I think home nursing and rehab therapy in nursing homes are really areas where the care provided to the individual was impacted by legislation. It is not just the impact on the companies. The patients receiving that care are definitely facing different levels of care than they were before.

MR. HARRIS: Just an example of that is--being a rehabilitation therapist up to a few years ago was a fairly hot profession. The schools were full. Wages were climbing.

Recently, there have been a number of major teaching programs, educational programs in rehab therapy that have shut down. They did not have one applicant, and the market is flooded now as a result of this.

DR. GROSSMAN: I would invite the audience to submit some more questions about the provider side since there is a lot. I am sure that people would like to know.

I am going to switch and talk a little bit about the plan side and talk about Medicare choice and again ask you what you think the most significant changes are in the Medicare Choice program and what effect they are going to have on plans and beneficiaries.

You have actually seen benefits decreased and a defection of seniors from those plans. I guess 450,000 seniors left plans in 1998, and you have also seen 100 HMOs scaled back or ended their participation in the Medicare Choice program.

MR. FIDEL: And the worst is yet to come, again, with the risk adjustors which will be a much bigger impact on the plans than we have seen so far.

So, if the question is what impact on Medicare Choice has BBA had, I think it is a deal buster longer term, that it will destroy the program, unless changes are made.

I guess I cant be more dramatic than that.

MR. HARRIS: Yes. It gets back to what I talked about earlier. If the trend is--pick your number, 6, 7, 8, 9, 10 percent. You cant raise premiums 2 percent and expect participants to stay in the business unless they radically change what they are offering which is what they are starting to do. Either they are getting out of the markets or they are starting to charge premiums themselves. They are starting to put caps on the pharmacy benefits and so forth.

I think you are going to see some pretty dramatic changes this July, and if that is the intent, to eliminate the plans or have them really become Medigap-type entities, then the legislation is doing what it is intended to do, but if the idea was to raise rates 2 percent and hope that everyone would stay in the business and leave the benefits the same, I think that is unlikely to happen.

MR. FIDEL: The intent of Congress, I think, was to encourage plans to enter rural areas and raise the rates for plans in rural areas and sort of cut back or slow the increase in the developed areas, but the rates in the rural areas are just not high enough.

So I dont think you have seen much new entry into that area. In the meantime, you are just seeing a tremendous scale-back in the established areas, and it is going to continue. It wasnt just a 1-year happening. We will see it continue.

Now, the other aspect is you could say, well, if Congress--and Jeff alluded to this before, making a defined benefit, where you give a plan a 2-percent rate increase and let them charge the beneficiary supplemental premiums and let them be profitable and have a profitable growth that way, well, then you will just reduce the gap, the value gap that risk Medicare provides to the beneficiary versus traditional Medicare, and you will just eliminate the risk Medicare program over time that way, again, particularly if a drug benefit becomes part of traditional Medicare.

If the article in the New York Times is accurate, and I wonder if it is in terms of what the Clinton administration is saying about their plans for drug benefit, they are talking about a drug benefit more generous than anything you can buy in the market, where it is going to a $10- or $20-per-month supplemental premium for the individual.

Well, if you believe that, I think I have a couple of bridges I could sell you.

[Laughter.]

DR. GINSBURG: I wanted to react to some of these statements and actually say what Norm just said, but in a little different way.

If you look at this from the beneficiary perspective, I think many beneficiaries see a Medicare Plus Choice plan as an alternative to buying Medigap coverage. The situation they have had in many markets is a choice between paying a substantial premium for Medigap coverage or paying no premium for a Medicare Choice plan and often getting drug benefits to boot.

In a sense, the cuts that have affected Medicare Choice have not been in the premiums that plans can charge, but just with the program pays the plan.

So I sometimes feel baffled that--you know, why cant the plans respond to these cuts by charging a premium, which would still be a very attractive premium compared to what beneficiaries are paying for Medigap because those premiums are going up very rapidly.

MS. WIDNER: And that is the ceiling. That is the ceiling.

MR. HARRIS: They are doing that, and notwithstanding some plans are beginning to charge a premium or increasing the premium and cutting the benefits, that to date they still are an attractive value proposition and that is why the enrollments are growing.

But I think Norms point, and I think we all agree, is that is today, but given where we are going with the provisions of BBA, the value gap may well be completely eliminated because each year that the rates only go up 2 percent and then they begin to drop actually with the risk adjustors, that supplemental premium is going to have to keep going up to the point where, back to my earlier comment, you are essentially offering them a Medigap plan. There will be very little difference.

MS. WIDNER: And the ceiling is what the Medigap policy is in that particular locale. So, if you are paying $300 a month, which my mother is paying for a drug benefit under the Medigap area, that is what the number is for the HMO plan. If the HMO plans offer drugs at 300 bucks and there is no Medigap policy in that area, because not all areas have them even though they are mandated, that is where the number is going. It is a different business than what you all intended with this Medicare Plus Choice.

The one other question I wanted to say was, what ever happened to all those other options under Medicare Plus Choice? Why did it become a bimodal business instead of--we were supposed to have PPOs and point of service and all these other products that I thought we were supposed to come out with, and I never heard what happened to that, but I throw that out to the audience.

If we had those other options and were able to get a real market dynamic going on for the seniors instead of a regulated environment, we would have more choice and we would have more abilities to make profits for the HMOs, and then we would have competition which would be a good thing because you would get more choices for the consumer when you have competition.

MR. FIDEL: Where do they come--why arent they there? Well, they dont want to get a 2-percent rate increase a year in the future.

MS. WIDNER: No, but the Government was going to come out, I thought, with opportunities to offer different types of products, werent they?

DR. GINSBURG: I think the opportunities are there, but few plans have seen business opportunities to do that.

This may be because as far as a traditional plan, the traditional Medicare is a really low-cost plan. So, in a sense, if you are going to compete with them, you are not going to compete by offering a PPO because Medicare already gets great rates from providers.

If you are going to compete with them, you have to offer something very different, which would be at the HMO extreme.

So, in a sense, my perspective on it is there never really was much of an opportunity. It was nice that Congress said that you dont have to be an HMO, but I think that is always where the HMO has been, always been where the opportunities are.

MS. WIDNER: And what happened to the PSOs? There was that model that really never happened either.

DR. GINSBURG: I think the underwriting cycle killed that off.

DR. GROSSMAN: I wanted to ask a short-run question as a follow-up. There is the underwriting cycle. You alluded earlier to the fact that health plans were actually benefitting and there was cross-subsidization going on from the Medicare risk program.

There has also been some data coming out that cuts werent really spit out as people expected, when you take in the blended rate and all this kind of stuff.

So the question is, in the short run, are plans really doing all that poorly, or is this more a question of being concerned in the longer run?

MR. FIDEL: If the benefits of blending mean you get a 3-percent rate increase, that is better than 2, but if your costs are going up 6 or 7, it is not feasible for this to work unless you can charge the individual more, which in the end will be the demise of the system.

MS. BOEZI: In this instance, I do think there is cost-shifting to the commercial side which is being passed on to employers.

MS. WIDNER: How long will that last? That is part of the question we had in your first question that opened. Are premium rate increases going up forever?

I say, if Medicare only gives 2 to 3 percent and then cuts it by a risk adjuster, premiums from the commercial side are going up forever until that balance actually shifts back. Each product line is self-sufficient, Medicare and commercial. There is definite cost-shifting going on.

The question I want to know is when are the larger employers who actually have a big say in what the policy debates are, are going to say no more, no more.

MR. FIDEL: Yes. Large employers have had the opportunity to shift their retirees into Medicare risk or a plan like that. If that disappears, it is going to be back to the old Medicare again which created the need for a Medicare risk. So it is a vicious circle.

MS. WIDNER: This whole 50/50, this is what this whole debate is going to be about in my mind in the Y2K election. It is going to be about what are the employers going to pay, and then you have got that bifurcation of small versus large employers. They have very different needs versus what the Government really wants to pay.

The trend line for the employers versus the trend line of costs for the Government, that is the face-off. Drugs might just happen to be in the middle of that whole pot, but it really is who is going to pay for what, and that is going to be the debate, and which vehicle do you want to use to control costs.

If the employers like the managed care industry, that is very good for the industry, but if the Government doesnt like the managed care industry and doesnt want the industry to survive, that is going to be a bigger component of the face-off and that is going to be tough.

DR. GINSBURG: It just occurred to me, the premium support proposals, which you are familiar with, is this in a sense a way out of this issue of the Government not setting the rates properly for the Medicare Plus Choice plan in the sense that if it was a system where plans set their rates and the Government figure out its contribution? Would this be a way out of that or not?

MR. FIDEL: I think it is except will the Government let it go on. In other words, they will create the system, and then a year or two later, how are they going to change the system and disrupt the trends that are going?

Obviously, this is a very important question, and for the next 2 or 3 years, we will be hearing a lot of discussion about it. Nothing stays the same. You create a system.

For example, this idea that you create a Medicare drug benefit, and then what happens? Utilization, you know, is going to go sky-high if you have a Medicare drug benefit under Medicare. Lets just look at other countries and see how much they use drugs when it doesnt cost them a lot out of pocket.

So then what will the Government do when the costs for that program turns out to be much higher than they thought? Are they going to say, well, as was quoted by the administrative person in that New York Times article? "We are not thinking about price controls." Are they going to say that a year or two after the program is in existence and costs are much higher than what they expected? Will history tell us that they wont change the system?

MR. HARRIS: They will do what Japan did. They will shut down the FDA.

[Laughter.]

MR. HARRIS: I mean the drug approval process.

MR. FIDEL: I think the people in the U.S. would be more vocal than from what we saw from the people in Japan about things like that.

DR. GROSSMAN: I wanted to switch from talking about Medicare and ask a couple of other questions about our regulatory policy and, first of all, ask about how other HCFA or HHS regulatory actions such as increased fraud and abuse investigations have affected providers and plans.

MR. HARRIS: I think they have from a capital side, certainly, also driven up capital costs. It is another risk factor that an investor will consider when looking at investing in any part of the health care delivery system.

I think 5 years ago, maybe it was the occasional company that ran into a regulatory problem, but it wasnt perceived as being at the front of investors minds in terms of a risk.

Now, in fact, the questions that we get that I think investors often have are, okay, there have been heavy investigations in the hospital sector, the home care sector, the lab sector. Every sector--well, the managed care sector hasnt had--at least has publicly disclosed widespread investigations. So they are going to be next. They must be next in the Medicare plans. There is a feeling in the investment community that this is a risk in all of health care services.

What does that do? It raises capital costs over and above what the fundamental impact on the businesses have been.

Whether it has been successful from a policy perspective in really rooting out fraud and abuse or changing aggressive behavior, I think we will find that over time, but it certainly has the impact of raising the risk profile from the investor perspective.

MS. BOEZI: In addition to raising capital costs, I think it significantly impacted capital inflows that people are more weary of investing in a sector, how long is this investigation going to play out, what is the fine going to be, and you are, I think, now starting to see some investigations into the Medicaid HMOs, especially in terms of marketing tactics, thinking that they are too aggressive.

The other area where I would say it adds cost is on the administrative side, seeing a lot more reporting requirements and infrastructure and controls put in place to try to prevent fraud and abuse within systems.

MS. WIDNER: On the opportunity side, it is given a lot of chance for some smaller companies who do outsourcing for hospitals to take advantage of the fact that if they are very expert at what they do and they come in and they can take the risk of medical transcription or whatever off the hospitals backs so that they can streamline it or even software and share services on some level, then it is a good opportunity for the smaller companies.

MR. FIDEL: Lets fact it. There was a lot, and probably still is a lot of fraud and abuse in the provision of health care services. So it certainly is the Governments right to come in and try and stop that.

I am sure that has had an impact on virtually every organization in terms of how aggressively they recognize revenues, what types of deals they may enter into with providers. It is awareness of the potential problems that fraud and abuse can be that has, I think, made just about everyone more conservative, and there have been positive effects from this very heavy-handed and well-publicized effort on the part of the Government to attack this problem.

MS. WIDNER: One last thing. I think what it has done is taken the growth rates down. All of us on Wall Street are very sensitive to what your growth rate is. It is revenue growth rate, earnings growth rate, whatever.

I think you have seen the admissions sort of come down a little bit for the industry, at least int he inpatient area. So, in general, that has hurt PE multiples, and that goes back to why there is not new capital necessarily flowing into the sector because the growth rates come down. The earnings multiple comes down. So the valuation should come down, and therefore, the opportunity to make money in the stock market comes down. So there is no new money coming into the area.

MR. HARRIS: I have one final question on that. To the extent that the activity is a means of rooting out true fraud and abuse, I think I agree with Norm. It is probably a good thing. We should do that, and certainly, the Government has a right to do that.

The question that I have is whether it is also being used as a policy tool just to lower health care cost trends, and that is, I think, a different question and one that I would hope that going forward there are better tools, whether it is reimbursement changes in levels or benefits or changes in the programs that can be used to that end versus a heavy-handed threat of investigation as a means of moderating overall cost trends.

DR. GROSSMAN: I wanted to ask one last question about regulation. Certainly, over the past year, we see plans stepping up to the plate and introducing some voluntary action, such as external review in order to counteract potential legislative changes or regulatory changes. So I guess the question is what impact--I mean, you might want to talk a little bit about what has been going on and then what impact will either voluntarily or regulatory actions have on premiums and ultimately on consumers financial burden.

MR. HARRIS: Certainly to the extent that you have consumers who reach up to the health plan level to pursue medical malpractice suits and so forth, I think there is no question that that is no free lunch. That will add to the cost structure and add to premium increases.

Of course, different people have different sides on this issue. They have their own studies that differ on exactly how much it is going to add, ranging from nominal amounts to some groups that have come up with perhaps as much as 8-percentage-point increase in the overall premium levels.

I think that debate ultimately may get settled in the large employer community because anything that is done for the health plans would also have implications for self-insured companies, and it would suggest that you would have to change some of the ERISA provision which specifically shield employers from employees suing them related to health care issues and other issues.

Just as a slightly tangential topic, an elegant solution that I know some of the big health plans have come up with is this independent blind third-party review, at least as it relates to experimental procedures.

So you have someone come in. They are very sick. There is some experimental procedures that they want, and instead of the health plan or even the health plan physician making any decision, they will farm it out to three independent academic centers that are in a blind base on a blind basis. If any one of the three comes back and says this procedure or experimental drug or whatever it is should be pursued, it will be pursued and covered, but if all three independently believe and recommend that this is a futile exercise, that the health plan then has--can stand on strong, but legal and moral ground in terms of not pursuing it. So I think that acts as sort of an elegant and maybe even relatively low-cost way of dealing with some of these very difficult problems.

MR. FIDEL: Wellpoint, for example, in California, every denial of care is subject to this on-company external review. So they have tried to shield themselves and maybe provide a plan to individuals that is attractive on that basis, but if they--their cost structure isnt any different than someone else. So they say that it is very rare that their decision is overturned by this external board of review.

Although you read in the newspapers about these dramatic cases where someone died or was denied care and it is $800-million jury awards, et cetera, when you put it to external review, there arent that many decisions that are reversed. Therefore, it has at least in this limited situation turned out to be a big cost booster for the plan.

As opposed to making plans subject to litigation, none of us know what the cost will be from that, but we know that if plans are open to litigation, certainly, they will start raising premiums before the cases are filed in court. It will be an immediate booster to premiums just because you will have to do it in order to protect yourself.

MS. BOEZI: I would just add, on a State level, you are starting to see State regulators allow these managed care plan liability laws. In California, Texas, and Georgia, they are supporting suits against managed care entities. I think you will see the cost continue to grow from that type of legislation.

MR. FIDEL: However, those State laws still do not address the ERISA issue, which still has to be solved at some higher level as to whether an ERISA plan is subject to a State law or not. So, yes, that opens the box a little bit, but it does not answer the ultimate question of whether an ERISA plan and the company itself can be sued. I do not think corporate America is going to want to be sued because of what happened in the health plan.

I know in the past, some plans have been proposed, well, we will make the plan liable to be sued, but not the employer. Well, you can say that, but in an actual litigation sense, we do not know whether you can do that. It will be up to the courts to decide whether a plan as well as the company will be able to be sued.

MS. WIDNER: Which is sort of a Y2K issue and election-year issue. This is all going to come back down to blows again next year.

My fear is that if this all comes down that we are allowed to litigation and leading to increased premiums and the large employers decide to throws in the towel, the consequences of that are we will have the socialized system for health care.

My bias, of course, working on Wall Street is that would not be the best scenario, simply because I like innovation. When I turn 65, I sort of would like to know if there would be some more opportunities for cures for the ailments that I probably comie up with, never knowing what they are already.

I think we have to look at the consequences downstream of some of these incremental policy choices that we are making.

DR. GROSSMAN: I wanted to take the last couple of minutes before Paul does, a summary, and just ask a couple of wrap-up questions. I will start off by asking you, over the last year or several years, what has been the most significant change in the health care system that has had the biggest impact in terms of cost, quality, or access?

MS. BOEZI: I think it is definitely the BBA.

MR. HARRIS: I would say it has been the underwriting cycle and the BBA. The underwriting cycle is a commercial phenomenon, and BBA is a governmental phenomenon, but those two.

MR. FIDEL: I think it is mandated benefits and societal desire for more freedom, which is change the type of plans that are now growing, and thats increase the cost structure for the country, medical costs, and maybe that is well. Maybe the freedom is worth those higher costs, but you cant get more freedom without a higher-cost trend.

MS. WIDNER: I have three different answers, I guess.

For the most significant impact on cost, I would say it is just technology and the venture funding of--or the large corporations funding technology in health care.

The biggest impact on quality, I think is competition. I think as hospitals and providers have all gotten more competitive in their businesses, they have stepped up to the game by being a lot smarter faster and so forth.

The biggest impact on acces, I think, has been the real good efforts of Hillary Rodham Clinton, and that she has made that as one of her big issues.

I think we as a society would never have addressed access unless someone would have tried to poke us. So I think she did a really good job on that front.

DR. GROSSMAN: I am not going to touch that one.

I will just back up and ask about the mandated benefits because it is something that we didnt talk about.

We certainly heard in our site visits a lot of complaints by providers and plans to some extent. What is your take on the actual bottom-line impact? Is it really changing provider behavior? Is it a passthrough? Is this showing up in employers increased premiums this year? What is the story?

MR. FIDEL: I think if we were to compare this year to 3 years ago, the combination of the shift towards freer plans and mainly State mandates, have increased the cost trend factor by 2- to 300 basis points, which is almost the entire difference between the cost trends of 3 years ago and today, but, of course, you know, we dont really know what the cost trend is in any given year. We only find that out 18 months later when all the figures are in, but I think it has been fairly significant. These things do not come free.

DR. GROSSMAN: Do you mean the open-access HMO?

MR. FIDEL: Open-access HMO, just the whole idea of emergency rooms visits can never be denied because the patient thought they should go there.

I am not making a judgment as to whether these things should be or not. It is just a fact that they do increase costs.

MS. BOEZI: Longer maternity stays.

MR. FIDEL: Right.

DR. GROSSMAN: I guess moving forward, what emerging trends havent we discussed that we should be watching for in the coming year?

MS. BOEZI: Well, I think this whole issue of uninsured Americans, this issue of tax credits is going to be something that is going to be part of a whole Y2K discussion, election.

Also, something we did talk about, the Medicare drug benefit coverage and potentially, ultimately, maybe some drug industry regulation, as those costs continue to grow exponentially every year.

Finally, I think it is going to be interesting to see what happens to physicians. We are seeing a trend. It is small at this point, 35,000 to 45,000 physicians who are now salaries who are part of unions. So I think this whole unionization trend is going to be interesting to watch, as well as private physicians who are non-salaries, trying to gain more collective bargaining rights, and where that positions them vis-a-vis the health plans.

MR. HARRIS: My main prediction is that the entire debate in health care, there is going to be a huge pendulum swing back to costs versus benefits and away from the current debate which is access, quality, right to sue, et cetera, et cetera.

I think we are going to be right back where we started 10 years ago or earlier, and I think it is strictly a function of the fact that the basic issue has not been addressed, and that is that we have the industry collectively continuing to come up with things that help people. They cost a lot, but they help people, improve quality of life, extend life, et cetera. It costs money, and I think this is a basic societal decision of how much do we spend on health care. It has not been answered.

It was deferred for a while because the underlying trend increase was being masked in profit erosion at the health plan level. So no one saw the premium increases, and they said, oh, I guess we do not have a cost problem anymore. Now lets worry about access and liability and so forth.

Now we are finding out that costs have not gone away. They are still going up. People want access. They want better technology and so forth. We are going to be right back where we started. Premiums are going to go up 10 percent a year. More than that, they are going to go up higher than inflation, higher than profits, higher than costs elsewhere, and we are going to be right back where we started in terms of the cost-benefit debate and how you allocate health care.

MS. BOEZI: Going back to a comment that I made earlier, I think that it is going to force us into a system where there are a minimum defined set of benefits, and it is going to be a tiered system where the people who have more money can afford better health care. The risk is going to be put onto the consumer, and I think the cost for better care is going to be put onto the consumer as well.

DR. GROSSMAN: Go ahead.

MS. WIDNER: I have one thing, what I think is a big trend coming, and we have not addressed it here. One is the disparity between what is going on, I guess, this week, where we are going to have a debate about the Right to Privacy Act and what is going to happen and what is going to evolve in terms of all of this information of our health care on our bodies and who is going to own it and where is it going and how is it all going to be transmitted.

The disparity between that, this control thing that is coming down, and hopefully a standardized one, versus the Internet and what is going on in health care in the Internet where there is absolutely no controls, and absolutely fraudulent information on health care can be looked up and retrieved in red and passed on to all your friends without any kind of controls.

So I see this incredible disparity happening in our society where there will be more controls on the institutions and less controls on the free market on the consumer health care, and the consumer health care is really where the action is if we want to incent people to get involved in their own health care.

So I am a little concerned about this emerging trend, and I see it exploding over the next 12 to 24 months because all of the health plans, at least in the last couple of months that I have talked to them, are actually seeing the Internet as an excellent marketing vehicle, an enrollment vehicle, and an informational vehicle. The doctors that I talk to see it as well. The smart ones are actually putting out their own web sites already.

So, if we have this explosion of health care in this silent world of the Internet, we need to pay attention to that, and I dont think a lot of us are. I dont know necessarily where the economic opportunity is there, but just from a societal issue, I think there is some way we need to hopefully, just personally, not have too much fraud out there. That could really blow up the very fabric and the very good fabric that we have in American health care.

DR. GROSSMAN: I think the way we are going to do this is Paul is going to do his summary, but before that, we ask if anybody has questions, if you can just pass them to the inside of the row and somebody will collect them. Then we will follow up after Pauls summary with a Q&A again.

DR. GINSBURG: Great.

What I want to comment on first is there has really been a type of thinking that has come out of this discussion that I found fascinating and I think very useful.

The way I would summarize it, forces like both the underwriting cycle and insurance and also the nature of the drivers of health care costs seem to drive so many other things in the health care system. They drive the type of products that consumers are offered, the degree of management tightness in these products, the ability of providers to take risks, and the nature of services that are being delivered.

Another broad perspective I got was in a sense how sensitive the system is to policy changes, at least in recent years, and the uncertainty in policy is a big problem.

This is very speculative. One thing I wonder about is whether the fact that our health care system has changed, there is a lot more of publicly financed enterprise and health care. I wonder if this means that policy changes are going to affect them more.

There is more potential for error in policy-making as far as doing something and we dont get the results we want.

When I think back to physician payment reform, where dramatic changes were made in the way Medicare pays physicians, the system just seemed to absorb it. There was not any risk of significant components of the delivery system going out of business, as was the case.

Let me get into some of the specific things. There was a prediction of high-premium increases, beginning this year in 1999 and lasting for a few years, and that they will exceed cost increases. Perhaps the next turn in the underwriting cycle would not be until 2002, some time off.

Underlying cost trends are seen as higher. There has been a recent increase of 1 to 1.5 percentage points from the previous trends, and some of the factors behind that are pressure for more access and more freedom by the public, by consumers and employers and policy-makers that represent their perspective.

I think the other significant impact is what is happening in the pharmaceutical sector. Pharmaceutical spending increases account for perhaps half of the trends in costs now, that we are looking forward to 15 to 18 percent increases.

In contrast, the hospital sector is very much under control, as is physician spending.

The managed care industry in a sense brought this explosion in drugs spending somewhat on itself by providing much better drug coverage than people in this country have had traditionally, but not having put into effect the management controls to constrain that.

Provider payment has not been a source of cost increases that overall providers have not shared in the premium increases that we are seeing going forward.

There are a few notable exceptions of hospitals, but at the end of the day, the continuing surplus in provider capacity does limit the degree to which providers can enhance their bargaining position with health plans.

We have had a great reduction in physicians assumption of risk. For the next few years, it is expected to decline. Health plans do have a role in the system. They do add some value.

Someone coined the term "decapitation," pointing out the fact that physician organizations lack the infrastructure and often lack the numbers. It makes it so difficult, and risk is being shifted back toward the health plan and turned back to the consumer. We are expecting that consumers are going to bear more risk for the decisions that they make.

Nevertheless, some people thought that a few years out, some assumption of risk by providers would come back.

There has been a shift in demands on health plans, perhaps away from broad management of costs into managing business aspects, paying the claims on time, giving consumers good service, although there are important initiatives in per-episode payments and in disease management, but that plans will be attacking care management in these very specified areas.

As far as consolidation on the part of the health plans and hospitals, again, the consolidation which increases share in a market helps these organizations, much more doubtful about the effects of consolidation across markets as to whether these organizations would really derive benefits from them.

As far as a lot of attention on, I think, some of the unplanned implications of the Balanced Budget Act for the system, the transfer policy payments affecting hospitals, real potential for outpatient prospective payment system having an effect and different effect in different hospitals depending on if their costs were high or low, major implications in the post-acute sector as far as companies going bankrupt and the prediction that unless change is made, a lot more companies will be going bankrupt, that this just is not a viable system from them.

Predictions that in some of the squeezes in premiums--or I should say Government payments in Medicare Plus Choice, it is going to shrink the system, looking at both 2-percent-a-year cap going on in an era where premiums and costs are going up more rapidly as well as the implementation of the risk adjustment system, which is expected to on balance lower the average payment to health plans.

I think I will stop here and finish up the questions.

DR. GROSSMAN: We will take a couple of these here.

I think there were some questions about the growing numbers of the uninsured, and one of the questions was, how will the effects of tax credit proposals, which Karen mentioned, tap the uninsured by coverage? In the individual market, what would be the effects of that, and specifically, will this cost crowd out--that is, the employers will stop offering coverage to employees and use the credits as an excuse to pull out?

DR. GINSBURG: Go on.

MR. HARRIS: This does not necessarily answer the question, but I do think if you have another round of dramatic premium increases as it relates to the underwriting cycles and if there are more benefit mandates, in a broad context, we are making health insurance less affordable and the number of uninsured may continue to go up, but I cannot address that specifically.

MR. FIDEL: I think we do not know. I do not think we have seen any good studies of what the impact of that would be. So I think that is why all of us have hesitated to try and answer that.

MS. WIDNER: I do think we will have some data points. Wellpoint just launched a new initiative for the uninsured in California, and they actually believe that this will be a brand-new product line for them.

When I asked them why are yo doing this, this is sort of very unusual--although I think Aetna actually also has that, too--

DR. GROSSMAN: Right, exactly.

MS. WIDNER: It is because there is no new growth in the insured market. If we have naturally maxed penetration in the managed care market, where is the incremental growth? The population is only growing a couple percentage a year actually, depending on which segment you look at.

So the new growth is the uninsured population, and this is when I go back to the premise that if you allow the competitive entities to enter into a market without regulating it, you will get competitive solutions. I think we need to look at the product that these two insurers are going to offer in this area.

It may be a watered-down product, catastrophic-like product. We do not know, but when we see it, we will learn a little bit more.

Do not forget that Wellpoints base business has really heretofore been in the smaller insured employer market. So they should know whether this is going to be a good market or not. So we will find out soon.

MS. BOEZI: I also think it is just going to be a growing problem. There are 43 million uninsured in a hot economic market.

When you start seeing the economic downturn, you are going to see, I think, a population with some of the factors just mentioned grow even greater. You will probably see some individuals who are covered under traditional managed care plans go into the uninsured population, which is going to put more downward pressure on the revenues of the managed care organizations and will create--force them to create new innovative products eventually.

DR. GROSSMAN: Switching to the impacts of BBA, I guess there are some questions here, particularly about the SNF market.

How many of you would predict some kind of Government intervention? If yes, what and how soon?

MR. FIDEL: I guess it depends a lot on how many bankruptcies we have. Will there be enough blood in the water? I guess that is what it would take to get Congress to act.

I can see some relief within a year, but I dont see dramatic relief within a year. It just takes a long time.

With home health care which was so dramatic, the relief that Congress gave was so small that it did not matter anyway. There is an industry that has been absolutely decimated by BBA, where it has completely changed the industry.

Congress threw a little bit back on the table, but not enough to matter.

MS. BOEZI: I think the senior population is going to start to become very vocal about this issue, more vocal, and that it is definitely going to be significant erection issue, but I do not see any really fundamental Government change until post-election.

MR. HARRIS: This may be a bit of a cynical view, but I think you are only going to get response at the point in time that Congress perceives that patient are is being harmed. I think that if some bondholders and stockholders are getting hammered, well, they made too much money in the bull market anyway. There is a little bit of that.

Realistically speaking, it is when patients start getting hurt or when seniors themselves start reacting.

One of the interesting challenges that the health plans have in this regard is when they have left a market because of the balanced budget bill. What plays over the radio is health plan abandons seniors, and it puts the health plans in a very negative light. I think the seniors may feel that way. They have been abandoned by their health plan. So I think when some more information is revealed that the reason why the health plan is leaving the market, it is because of a change in reimbursement or the reason a sub-acute facility is cutting back on its rehab therapists or shutting down a unit which is harming patient care.

When we get the blame beyond the individual facility of the health plan and it starts going back to policy and there is a greater awareness of that, that is when you will start to see some changes.

MS. WIDNER: I would ask how we can give a drug benefit if we do not have any remedies under BBA. I think that is sort of incongruent. So I would expect that it will all package up into the same debate.

DR. GROSSMAN: I am going to take one last question here, and then I assume that the panelists are going to stay afterwards. In general, if people want to come up and ask questions, they can.

This one is a good one that I like. It says, "What predictions from last years session have not occurred, and why?"

[Laughter.]

DR. GROSSMAN: It is hard to remember, but what were the surprises from the last year, things that you expected to happen that didnt happen?

[Laughter.]

MR. HARRIS: We are brilliant. We predicted everything.

DR. GROSSMAN: Did you expect BBA to take--

MR. HARRIS: BBA was probably a bigger hit, I think, than most--I will speak for myself--than I would have expected.

I think, as I remember the panel last year, the premium cycle and some of the other things have come through reasonably well. In fact, I think BBA took a bigger bite out of the entire provider delivery system. Even if you were negative, it was more negative than you might have thought.

DR. GROSSMAN: Im sorry. I didnt mean to only refer back to what we discussed here, but just in general in the system. The PPMC was another issue that we talked about. It was already on its way down by June of last year.

MR. HARRIS: Yes. That was a surprise from 3 years ago. It was for me.

DR. GROSSMAN: That is good.

DR. GINSBURG: Let me just close the meeting by first thanking the panelists for a terrific job. They all contributed a lot and gave us a perspective we do not often hear in Washington or at least not in so well-expressed and thoughtful a way.

I want to thank Joy Grossman for the work she has done in preparing for this conference, coming up with the questions and running them by the panelists who helped us screen out the duds that they did not have anything interesting to say on.

I would like to thank the Public Affairs staff at the Center, Ann Greiner and Gina Rule, for all the behind-the-scenes work they have done in the conference, and also Roland Edwards and Linda Maturo working at the desk.

I guess I should thank the health care system for the rapid change that it has given us so that we can do this every year and have new stuff to talk about.